Mortgages for landlords
The buy-to-let market can be beneficial if you get it right, but things can also go horribly wrong if you jump in without understanding the risks involved. So before you apply for a buy-to-let mortgage, here are some of the main issues you need to think about.
What state is the market in?
To make the most of a buy-to-let investment, you need to have a thorough understanding of the state of the housing market. Research what is happening to rents now, and what experts think is likely to happen over the next few years
For example, if the lettings market is very slow, you may not be able to make enough rent to cover your total monthly mortgage amount.
One way to test it out is to pose as someone looking for a property to rent. Estate agents often say different things about the state of the market to those looking to rent as opposed to those looking for an investment property.
Which area should I choose?
It doesn't necessarily make financial sense to go for a property local to where you live (unless you're intending to manage it yourself. Getting calls from tenants in the middle of the night when they're miles away is no fun
If you're going to let an agent handle everything for you, you can spread your search area. Think about whether an area has a 'draw' which might make it particularly attractive to tenants.
Questions to ask:
1. Is the area part of the commuter belt?
2. Are there good transport links?
3. Are there good schools or universities nearby?
4. Is it a safe area for families with young children?
5. Does it have good local shops and other amenities?
Your priorities should defer depending on the type of property you're looking for. If you're buying a one-bedroom flat, good transport links will be high on the list of priorities for potential renters.
However, if you're going for a family home then good schools and amenities are important. And for student lets, you need to be near the university.
What sort of tenant do I want?
The type of property you buy should be closely related to the sort of tenants you'd prefer. For example if you're hoping to attract a young family, the property should ideally have a safe, enclosed garden.
While a group of students is likely to be looking for somewhere clean and affordable, rather than luxurious, single, professional men may value high-spec, modern extras - like a large flat-screen television or a great power shower.
Of course, to some extent these are stereotypes - but they illustrate how closely property choice and tenant preference are linked.
What's the worst-case scenario?
Before you apply for a buy-to-let mortgage, you need to sit down and work out a realistic, comprehensive estimate of all the figures and costs involved. This should give you a clearer idea of how much you'll be able to borrow, and whether you'll be able to overcome the financial risks involved.
Main points to consider:
- What are similar houses in the area being rented out for and is this what you expect to earn in rent?
- What percentage deposit will you be able to provide? You will usually need a deposit of at least 25% - if you can hand over a fairly large deposit, you'll have access to more competitive deals.
- Have you put extra funds aside to cover additional costs - for example, mortgage arrangement fees, legal fees, survey fees, stamp duty, buildings and contents insurance and maintenance costs?
- Will you be able to cope financially if the property isn't rented out straight away or if there is a gap between tenants?
- If you're considering a variable rate mortgage deal, would you be able to cope if interest rates rose?
How much help do you need?
Finally, think about how much of the buy-to-let process you're happy to deal with yourself. Taking care of things personally may help you avoid certain handling and management fees.
However, it can be a complicated, time-consuming and sometimes stressful business. Consider which of the following you'd like to do yourself, and which you'd rather hand over to an estate agent or managing agency:
- Finding tenants;
- Checking their references;
- Producing a tenancy agreement;
- Maintaining the property (internal and external) and carrying out any repairs;
- Collecting the rent.
EXAMPLE – Buy-to-let
You buy a property worth £170,000 with a maximum loan-to-value of 60% on a rate of 5% over a 25-year interest and capital repayment period.
You have a deposit of £68,000
You require a mortgage of £102,000
To work out your monthly mortgage repayments:
Take mortgage of £102,000 X 5% divide by 12 months = £596
Some lenders require 130% rent to interest cover, so if a surveyor valued a monthly rental at £800 then:
£800 divide by £596 X 100 = 134% (more than enough cover)
Based on the monthly rental survey at £800, the maximum loan a buy-to-let lender will lend for this property will be
800 X 12 months = £9,600 divide by 130% = £7,385 divide by 5% = £147,700
These work like the typical buy-to-let mortgage - only in reverse. Let-to-buy mortgages are used if you want to move, but can't sell your home. You rent out your existing home and take out a let-to-buy mortgage on it which you then use to pay towards a new home.
This sort of mortgage is useful if you have to move for work reasons, for example, but can't sell - or if you want to hold on to your original home for investment purposes.
How do they work?
The let-to-buy lender will calculate how much it is willing to lend to you without taking your existing home loan into consideration - as long as the rent paid by your tenants covers the monthly repayments.
But the lender on your existing mortgage has to be satisfied this is enough, otherwise it won't let your mortgage be ignored when your new lender makes calculations for your let to-buy-loan.
Although in the past, lenders viewed taking on a second mortgage as a purely commercial venture, this has since changed and the rules governing let-to-buy can be less stringent than those on buy-to-let.
For example, you may be allowed to borrow a higher proportion of the property value, meaning you will only have to put down a small deposit, and in some cases, if you own enough of your existing property, you may not have to put down any deposit at all.
Be aware that you must ask your existing lender for permission; lenders may say no if they think you are financially over-stretching yourself.
Why let-to-buy is good
- Particularly good if you're relocating as a result of a job or change of circumstance and want to buy wherever you go.
- Allows you to retain your current property as an investment, with the mortgage being paid by the tenants.
- Very useful if you want to sell, but own very little of your home and would prefer to sell at a later period, for example when the market is rising.
- Can be used to start building a property portfolio.
- Your existing mortgage lender must grant permission for you to rent you current home out.
- If not, you may have to remortgage to a lender who will allow let-to-buy.
- Your building and contents insurer must be informed about the changes.
- Where leaseholds are involved, you need to ensure there are no restrictions on letting your property.
- How suitable is your current property for renting?
- Is your home in the right location for renting out?
- Could you cope with lengthy void periods, when there are no tenants?
- Are you ready for the financial risk of two mortgages?
- Are you ready for the extra burden of insurance, letting fees, maintenance, and periodic redecoration?
- Check you can make enough rent to cover the mortgage
- Think about the property location
- Compare management fees
Don't go into buy-to-let hoping to make a quick buck, you could burn your fingers