Property clubs are attracting money from investors who want to put cash into buy to let but do not have the resources to purchase a home outright.
However, this kind of investment comes with a wealth warning because unlike regulated property investment funds, many property clubs are operating on the frontiers of investment and offer no financial protection if something goes wrong with the deal.
Typical property clubs offer shares in student lets, hotel resorts and buy to let properties.
The marketing screams out ‘guaranteed’ returns or yields which should be a warning sign that club is not regulated.
These clubs are running the crowdfunding model for investments by pooling cash from lots of small investors into a larger amount to fund buying, renovating and managing buy to let homes.
Property investment risks
Before investing in one of these property clubs, investors need to consider some important points;
Property clubs throw up a number of risks to investors –
- Compensation – As unregulated collective investments (UCIS), they sit outside of the Financial Ombudsman and Financial Services Compensation Scheme, so investors have no independent redress other than the courts if they have a complaint against the provider
- Liquidity – If an investor wants to take their money out of a property club deal, unless the administrators have liquid funds, the money may not be available for many months – and in the case of a recent £1 billion student property fund, two years or more
- Control – Investors lose control of their cash
- Tax – Unregulated funds do not have the same tax breaks as investment schemes like pensions, ISAs, bonds and other financial arrangements that come with tax relief
- Investment costs – Set-up fees and administration charges add cost to the deal which reduce the yield in comparison to a direct investment
Guaranteed yields are a minefield, according to the Advertising Standards Authority (ASA). The ASA has censured property agents for advertising guaranteed yields because yields are calculated against property prices and agents cannot predict what a property price will be five years down the line.
Fatal flaw in a guarantee
To maintain a guaranteed yield, the property club generally has a cash reserve to top up payments to investors if the yield drops.
For example if a property is rented at £1,000 a month and is worth £250,000, the yield is 4.8% a year.
But if the property price increases 5% to £262,500, the yield on a £1,000 a month reduces to 4.57%.
So if the property price rises, the rent has to increase pro rata or the yield decreases.
This is often a fatal financial problem for property clubs who have properties reaching the maximum market rent while the value is still rising. The money to back the guarantee has to come from somewhere and if the glass ceiling is reached, that often means liquidation is on the horizon because the directors have no room to manoeuvre.
