A duty to stump up tax

Buying your first property is a big step. It's not often you find yourself stumping up thousands of pounds in one go, and it's a strange feeling willingly saddling yourself with many, many thousands of pounds worth of debt that will probably take you until you are old and grey to pay off. Add to that the extra burden of tax and it's not surprising that one in four first-time buyers who bought their first property last year found stamp duty a significant financial obstacle, as a survey published last week by Alliance & Leicester found.

The tax, an up-front charge of 1% on properties costing between ?60,000 and ?250,000, takes a considerable chunk out of the savings of any first-time buyer. According to Halifax, the average first-time buyer in the UK would have paid just under ?120,000 for a property in the last quarter of 2004. That would mean digging up a tidy ?1,200 in stamp duty.

Stamp duty provides a handy income for the Inland Revenue, bringing in the handsome sum of ?4bn a year. According to Halifax, research from the Organisation for Economic Cooperation and Development (OECD) shows that UK property taxes, which include stamp duty and inheritance tax, as a percentage of gross domestic product (GDP) are the highest for any major developed country. The most recent data shows that UK property taxes have risen from 3.7% of GDP in 1995 to 4.3% in 2002. The average for other "Euro-zone" countries is just 1.9%.

So it's a fairly safe bet that the government won't be making major cuts when it comes to stamp duty. Indeed, Ray Boulger, senior technical manager at mortgage broker Charcol, says: "Every year the industry calls on the government to reform property taxes, and every year we know it won't happen. But you've still got to ask."

The trouble many in the property industry have with stamp duty isn't really to do with its existence, although plenty would like to kiss it goodbye. The issue is more to do with how the government has let it evolve since the thresholds were last set. It's not so much that it has moved the goal posts, but rather it has left them where they were but moved the entire pitch. When the thresholds were last changed, in 1993, the average home in the UK cost ?62,867. First-time buyers were paying on average ?45,694 for their homes. So in the main, the people who were faced with the cost of stamp duty were those buying more expensive properties.

This is no longer the case. The lowest threshold is still ?60,000, and yet house prices have gone up by around 150%. The average house costs ?162,000, according to Halifax's latest monthly index, published last Friday.

In every single region in the UK, the price of the average house far exceeds the stamp duty threshold - in Scotland, where prices are lowest, the average house still costs almost ?100,000. Indeed, 71% of properties bought and sold in the UK now qualify for stamp duty whereas in 1993, only 35% were subject to the tax. And the average paid by a first-time buyer is well above the threshold too, at ?73,500 in Scotland, where prices are lowest and ?196,000 in Greater London. To find out what ?60,000 would currently buy, click here.

Halifax, which intends to lobby hard for changes to property tax in 2005, is calling for the government to bring stamp duty thresholds in line with house price increases. The lender's general manager for government relations, Shane O'Riordain, says that change is long overdue. If the tax had been linked to house price inflation, stamp duty would kick in on properties costing ?146,000 or more, leaving many first-time buyers free from the tax.

"At the very minimum, property tax thresholds need to be automatically aligned with house price inflation," he says. "The fiscal drag game that successive governments have played is neither realistic nor equitable. Halifax will lobby for a large dose of realism to be injected into the property tax regime as soon as possible," Mr O'Riordain says.

On the other hand, Mr Boulger's main beef with stamp duty is the way in which it is charged. If you buy a property for between ?60,000 and ?250,000, you pay 1% in tax. So if the property cost ?250,000, tax would come to ?2,500. But if you were to pay ?250,001 you would find yourself in the next bracket up, where stamp duty is charged at 3% - and that's based on the whole value of the property, not (as is the case with income tax) on the chunk of the price above the threshold, so that ?1 extra would push tax up to ?7,500. The next bracket kicks in at ?500,001, where buyers pay 4% of the whole value of the property. So a property costing ?550,000 would mean a tax bill of ?22,000.

There are some parts of the country, designated as "disadvantaged areas," where the first band of stamp duty doesn't kick in until ?150,000. To find out if a property is in a qualifying area, type the post code into the Inland Revenue's website.

But for the majority of people, stamp duty is a big, pricey reality, and unfortunately, it is one people often forget about. According to Alliance & Leicester, one in 20 first-time buyers only found out that stamp duty would have an impact on their budget once they had spoken to their solicitor, and the same number only realised the full cost of the tax once they had received a mortgage offer from their lender.

If you're seriously thinking about buying a property, you had better have some equally serious money hanging about. According to Charcol, you'll need the typical mortgage arrangement fee of around ?395, solicitors fees of around ?550, search and land registry costs amounting to ?350 as well as a valuation fee of about ?245.

Then there's the small matter of the deposit. The average deposit put down on a property in the UK now stands at ?20,000, rising to ?40,000 in London. So ideally, if you're looking to buy then you will need somewhere in the region of ?23,000 in the bank, and almost twice that if you're buying in the capital. Either that, or a rich relative willing to help out.

There are other options. Some lenders will offer first-time buyers a mortgage worth more than 100% of the value of the property, leaving you free to use the excess to cover those up-front costs.

However, these loans come with risks attached. The less of your own money you have invested in the property, the more at risk you are from the perils of negative equity (where the property drops to below the value of the loan you have taken out against it) should property prices fall. Negative equity is very bad news when you come to sell, as you would owe the difference, possibly many thousands of pounds if prices plummeted, to the lender.

If you're prepared to shoulder the risk, there are several deals out there. Northern Rock, for example, offers up to 125% of the value of the property with its 'Together' mortgage, as long as you meet the lending requirements. Scottish Widows offers up to 110% to people it counts as professionals, including accountants, solicitors, dentists, doctors and teachers. Graduates under the age of 35 may qualify for a mortgage worth up to 102% of the value of the property they are buying.

None of these companies charge higher lending fees, which used to be called mortgage indemnity guarantees (MIG). Some, however, do, and it's worth avoiding them. The charge is levied on all loans equal to a significant percentage of the property's price, for example, a loan of ?95,000 on a ?100,000 house would often attract a higher lending fee. Also worth noting is the fact that many high loan to value (LTV) loans come with a higher interest rate so will work out more expensive.

Another option is a cashback mortgage, which, as the name suggests, gives you a lump sum payment when you take out the mortgage. Charcol has an exclusive deal offered by Bristol & West where homebuyers can borrow up to 95% LTV and receive a cashback of 6%, which is paid to the solicitor along with the loan and can therefore be used to cover those up-front costs. As is often the case with loans that offer something extra, this one comes with a relatively high interest rate of 6.84%.

· To find out what you could buy beneath the ?60,000 stamp duty threshold, click here.

Stamp duty thresholds

· ?0 to ?60,000 - 0%
· ?60,001 to ?250,000 - 1%
· ?250,001 to ?500,000 - 3%
· ?500,001 and above - 4%

Typical up-front costs for a first-time buyer

· Lender 's arrangement fee (typical)?395
· Insurance fee (charged by some lenders if you make your own building insurance arrangements) ?25
· Solicitor's flat fee (typical)?550
· Search fee?150
· Land Registry fee?100
· Postage etc?25
· Funds transfer fee?25
· Credit/bankruptcy search?10
· Valuation fee?245
· Mortgage broker fee Up to 1%
· Stamp duty (on ?150,000 property) ?1,500

· Source: Charcol