UK hotels face real estate tax pain

One Aldwych is an independent hotel in London. Photo credit: One Aldwych (One Aldwych)

Independent hotels across the UK are already facing rising costs and uncertainty as a result of Brexit, but pressure from business rates may be the tipping point for some properties.

Falling Profits

As the March 2019 deadline to leave the EU approaches and a deal with the bloc remains elusive, the prices of imports and staffing have grown, driving down profits.

Last year saw changes to the occupier-related real estate tax—otherwise known as business rates—come into effect seven years after the last revaluation. The revaluation normally occurs every five years, but was delayed to avoid disrupting the general election. 

Annual rate increases were capped at 42 percent, up from the 2008 cap of 12.5 percent, with the Federation of Small Businesses estimating that 36 percent of small firms expected to see their business rates increase, with investment likely to be cut as a result. 

The Final Straw

Kate Nicholls, CEO of UKHospitality, said the increases could be the final straw for some hotels, adding the organization was working with the Valuation Office “to ensure that they understand the issues facing the hospitality sector. One of the things that isn’t properly reflected is investment; it isn’t taken into account. There is too much focus on the revenue at the top and not on what happens at the bottom.” 

The general market conditions, Nicholls said, are different from how they were in 2010, when the last evaluation took place, both in terms of hotel ownership and the costs that go into the sector. “The broader issue around business rates is that the government needs to raise £26 billion and when you have more businesses which are not based on premises, there is a smaller pool to draw from and hospitality businesses are always going to be property specific. 

“The sector accounts for 9 percent of GDP, but pays 25 percent of business rates. It is overpaying by £1 billion. There are accommodation providers, platforms which are not paying tax, which means that the sector is paying a disproportionate amount. There needs to be a fundamental change.”

In the short term, Nicholls said, UKHospitality wants a freeze on further increases. “In the medium term, we need it to be neutral and we would like to see hospitality-specific relief. We need root and branch reform; it’s not fit for purpose.”

The All-Party Parliamentary Group for Entrepreneurship has called for reform of the UK’s tax system, which specifically highlights business rates as a cause for concern for entrepreneurs. The group argued rates should be levied on commercial-property owners rather than occupiers, alleviating cash-flow constraints and reducing the administrative burden. 

It also suggested basing rateable values upon the underlying land value of a commercial site rather than on the value of the property itself. This, Group members argued, would encourage investment as, under the current regime, any investment which improves the property also increases its value and hence the tax to be paid. 

“The report identifies considerable flaws in the current tax system and calls for a complete overhaul; something that we have consistently called for,” said Nicholls. The current system of business tax is completely out-of-date and totally unsuitable for the realities of doing business in the 21st century.

“Arguably the principal challenge facing employers in the hospitality sector remains business rates, which have not been reformed despite promises in successive manifestos. The report suggests the transformation of business rates into a tax on commercial landowners and on land rather than property, which would begin to address some of the imbalances in the current system and help reduce the unfair burden that hospitality businesses face, particularly affecting investment. Crucially, the government needs to accept there is a problem, acknowledge the creative solutions being presented and facilitate a formal review with businesses to find a workable solution.”

The Effects on UK Hotels

The uncertainty around the UK’s exit from the EU has made the pound weak, affecting the cost of imports and made mainland EU nationals wary of the sector, pushing up the cost of attracting and retaining staff. In addition, the National Living Wage was increased earlier this year. 

HotStats’ most recent figures (for May) described the month as a “washout” for UK hotels, with year-on-year profit per room dropping by 5.6 percent as the wettest March in a decade, as well as unseasonal snowstorms, added to the already challenging trading conditions for hotels. 

The drop in profit at hotels in the UK was led by a 1.4 percent decrease in TrevPAR, to £129.69, as declines were recorded across all revenue departments, including Rooms (-1.2 percent), Food and Beverage (-2.4 percent) and Conference and Banqueting (-5.5 percent) on a per available room basis.

The revenue decrease was further exacerbated by rising costs, which included a 1.1-percentage point increase in Payroll to 29.2 percent of total revenue, as well as a 0.9 percent increase in Overheads, which grew to 23.4 percent of total revenue.

As a result of the movement in revenue and costs, GOPPAR at hotels in the UK fell by 5.6 percent year-on-year to £46.13 in March. This was equivalent to a profit conversion of 35.6 percent of total revenue.

“Spring failed to materialize in March and instead it was replaced with heavy snowfall and bone-chilling temperatures as the UK experienced its worst winter since 1991,” said Pablo Alonso, CEO, HotStats. “This had the double-whammy effect of causing a drop in top-line performance as hazardous conditions meant the advice was not to travel, but also the bottom line was hit by high payroll costs, as it was way too late to adjust staffing levels, and the cold weather meant the heating had to stay on.” 

HotStats drew attention to the increase in hotel supply in the UK, and in particular in London, which was also affecting performance in the sector. It is not just the traditional hotel sector which has been bringing additional rooms onto the market. As reported in Hotel Management, Colliers International has encouraged hotels to appeal business rates on the grounds that Airbnb and other sharing platforms have bought about a “material change” in the market. 

John Webber, head of rating at Colliers International, argued the playing field is not level. “Not only is Airbnb attacking hotel market share by offering cheaper room rates, but is able to do this through the unfair advantage of not paying business rates."

Nicholls noted that Airbnb does not have to bear the same costs traditional hotels do. “Until the government bites the bullet and realizes that it is no longer the cuddly, warm, sharing economy, there won’t be any change.”

In the meantime, hoteliers, particularly lone operators, are having to put off refurbishments and investments to pay their rising bills, becoming less competitive as a result. As Brexit approaches, size matters.

Katherine Doggrell is an editor at Hotel Analyst, the U.K.-based news analysis service for hotel investors.