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ECONOMIC OVERVIEW
TAX RISES HIT GROWTH
The electorate, the markets and the economic commentators were made to wait until November 26th before the Chancellor finally revealed the measures in her 2026 Budget – which meant that the second half of the year was dominated by speculation, leaks, ‘pitch rolling’ and endless discussion about the relative merits of tax rises and spending plans.
For the housing market, it meant a virtual impasse while buyers and sellers waited to hear what new policies might be introduced to boost construction, support demand and redress the uneven distribution of housing wealth
In the end, it was a more neutral budget than many had expected, at least for the housing market. The long-trailed Mansion Tax did materialise - but only for homes valued at more than £2 million, at a lower rate than had been feared and not until 2028. The surcharge on Council Tax requires the revaluation in 2026 of homes in tax bands F,G and H.
It was a little surprising that there were no new measures to help First Time Buyers or downsizers – if only to back up the government’s commitment to 1.5 million new homes. Of course, the indirect effect of lower interest rates and general sentiment will have an impact.
The one area of the housing market that was directly targeted, yet again, was the small landlord, or Buy to Let sector. The latest in a seemingly bottomless well of new ideas is the addition of a 2% surcharge applied at each tax band (basic, higher and additional), for any income earned from property rentals. This pushes the effective rate of tax from 46.8% to 48.8% for higher rate taxpayers. Figure 1, shows that across the country, Buy to Let borrowing has already dropped to its lowest level since the Global Financial Crisis.
Mortgage rates are forecast to drop in 2026 but still remain significantly higher than they were just 3 or 4 years ago. In October, the rate on a 2-year fixed mortgage with a 60% LTV (loan to value) was 4%. That is significantly less than the 6.22% a borrower would have paid in the summer of 2023 - but far higher than the 2021-2 average of 1.3%, according to the Bank of England.
UK inflation slowed more than expected to 3.2% in November a ten-month low, paving the way for the Bank of England to cut interest rates for the 4th time in 2025 on 18th December to 3.75%.
Extending the freeze on personal tax thresholds for a further three years was the key revenue-raising policy in the Budget. It allowed the Chancellor to claim she had honoured her manifesto commitment to ‘not raise taxes’ but it was considered by many to be a sleight of hand. As wages rise, people will cross into the next tax band and the nation’s tax take will progressively increase. It means that disposable income will decline for many in the next 3 years while the funds available to government to cover spending and borrowing costs, will improve.
The move reassured the bond markets - a priority for any government. The Chancellor’s prudence in extending the headroom to stay within her self-imposed ‘fiscal rules’ meant that on the day of the Budget, yields on UK government bonds fell, the pound strengthened and equities recorded modest gains.
The housing market is considered a barometer of national confidence and 2025 turned out to be quiet. After the spike of completions in March (ahead of the April stamp duty deadline} the market remained sluggish for the rest of the year. The ‘lost months’ caused by the late Budget were not recouped.
The government promised growth in its election manifesto. That has yet to materialise. Hopes of a policy boost in the Budget were dashed although some commentators still hope that a new version of Help to Buy will be announced in the months ahead, or another stamp duty concession for First Time Buyers.
There is a set of ‘Consensus Forecasts’ published monthly by HM Treasury which is based on a selection of forecasts from independent commentators (primarily economics consultancies and banks) which anticipates lower GDP growth in 2026 than has been achieved in 2025.
This prepared the way for one more reduction in interest rates by the year end which will be followed, all being well, by a couple more in 2026. While these have been priced into mortgage rates already, the greater certainty will underpin the all-important sentiment in the housing market.
It is undoubtedly the case that the government has faced challenges on multiple fronts – some that could not have been foreseen, in particular, the US tariffs and its withdrawal of defence support for NATO and Europe.
Real GDP is forecast to grow by 1.5% in 2025, and that is 0.5% faster than in the OBR’s March ‘Economic and Fiscal Outlook’. However, it was strongest in Q1 (when the SDLT deadline boosted house sales) and the rate of growth slowed to 0.1% in Q3 – when it was depressed by the Jaguar Land Rover shutdown.
The UK unemployment rate in the three months to October increased to 5.1%. The figures reflect a weaker labour market, particularly as businesses held off hiring before the Budget. The percentage of people in the UK who are unemployed is now at its highest level since January 2021, just below the peak rate seen during the Covid-19 pandemic.
