How to join the buy-to-let boom: Get started and pick the mortgage that's right for you
06-02-2015
By James Coney and Sam Dunn and Tessa Norman for the Daily Mail
If you’ve ever thought about your finances, you will have wondered whether you should become one of the thousands of buy-to-let landlords who make money from property.
Starting today and all this week, we’ll guide you through the buy-to-let process in a series of incisive features so you can make up your own mind — and possibly secure your family’s financial future.
Is it time for YOU to take the plunge?
Britain is in the grip of a buy-to-let boom. In the past five years, the number of homes bought by landlords to rent out as investments has more than doubled. One is being snapped up every five minutes.
It is estimated there are two million landlords who own nearly one home in five. Of those, 1.6 million are funded by buy-to-let mortgages, totalling £188 billion of loans, according to the Council of Mortgage Lenders.
Investors have always been drawn to the property market, which is not surprising given that the value of their own homes has soared by more than 210 per cent over two decades.
Buy-to-let has particularly flourished as savings rates on the High Street have plummeted and payouts on pensions have fallen by a third.
Meanwhile, thousands of lucrative final- salary pension schemes have closed, leaving workers wondering how they will fund their retirement.
And a series of investment scandals, such as endowment and pension mis- selling, have left investors disillusioned with banks and insurance companies.
In this context it seems inevitable that families should look to property to bolster their incomes, particularly as mortgage rates have fallen to record lows. Many have become second-home owners almost by accident.
HOW THIS IS MONEY CAN HELP
Ten tips to build your buy-to-let portfolio
Some inherited homes when their parents died, which they have decided to keep on as a safe investment, and others ended up with two homes when they settled down with a partner who also had their own property, deciding to live in one and rent out the other.
Meanwhile, lots of people are snapping up second homes as holiday rentals or to help when a child goes to university.
Certainly, the rewards in the long term are tempting. A recent report by economists showed that buy-to-let landlords have enjoyed incredible returns of nearly 1,400 per cent since 1996, beating all other investments.
If you put £1,000 into a rental property at the end of John Major’s government, it would have grown to £14,897 by last year, according to the research.
In terms of profit, it is six times what shares would have earned and more than 14 times the return from leaving the money in a cash account.
But becoming a landlord isn’t risk-free and could even end up costing you money if your property remains empty for long periods. You’ll also need a fair bit of capital up front — at least a quarter of the property price — before you can get going.
On top of this, when you put your money into most investments, you can generally sit back and let the professionals manage your cash for you. All you need to do is check on it once in a while.
“It can provide you with a healthy income as well as bolstering your nest egg if the value of your property rockets”
But buy-to-let is a business and can be hard work — enormously so at times. There is not only the property to look after, but agents and tenants to manage — and tenants can be time-consuming.
You need to be a good business person, but also a fair and pragmatic landlord. You will be dealing with other human beings, after all.
Get buy-to-let right, though, and it can provide you with a healthy income as well as bolstering your nest egg if the value of your property rockets.
All this week the Mail is going to show you how to become a buy-to-let investor. Today, we will look at taking your first steps on the landlord ladder and how to find the best mortgage for your needs.
Then, day by day, we will look at all the other ways you can become a successful buy-to-let owner. We will tell the stories of those who have taken the plunge and pass on their advice, the top tips of property experts and how to transform a house or flat into the perfect buy-to-let property.
This year, major changes were made to how we can take our pensions. Essentially, they allow many people to take large lump sums instead of turning the money into an income for life using an annuity. With this in mind, we’ll analyse whether you can rely on property for your pension.
Finally, we’ll look at how to buy a second home abroad, or in the UK, which you and your family can enjoy while making a healthy income from shorter-term lets.
But first, a word of warning: it’s critical you do as much homework as you can before taking the plunge. There may be a buy-to-let boom, but be sure you don’t take too big a risk and lose your savings.
A total novice? Don't worry - here's how to get started
The first thing you need to know is that there is no easy route to success. You’ll need to put in long hours of research and keep the property you buy in good condition.
Start by considering who you would want as tenants and why they would rent from you. The answer depends on whom you want to target: families, young professionals or students.
Each has particular needs for which you will need to cater.
Families are likely to need a home with a garden, at least three bedrooms, decent parking and good schools nearby. Many will prefer an unfurnished property.
For young professionals, it’s all about being a stone’s throw from restaurants, shops and the gym, and efficient transport links.
Students need to be reasonably close to campus and other student homes where their friends live, favourite bars and college haunts. You won’t need to provide high-spec amenities: think clean and comfortable instead.
CASE STUDY: THE COUPLE WHO KEPT TWO HOMES
Family of four: Raj and Fiona Shah with their two children Oliver, three, and Alexander, 19 months
Raj Shah and his wife Fiona became landlords by accident. Like many young professionals, they each owned a home before becoming a couple.
When they decided to move in together in 2008, they chose to live in Raj’s property, but kept Fiona’s two-bedroom, end-of-terrace home in Sheffield, worth £160,000, as an investment.
The rental income it produced would be useful, while any increase in value would build up a nest-egg.
The property is let to a young couple. The rent covers the mortgage repayments of £600 a month.
Fiona, 41, and Raj, 39, live in a three-bedroom house nearby with their boys Oliver, three, and Alexander, almost two (above).
They are typical of thousands of ordinary couples who have joined Britain’s buy-to-let boom. But becoming landlords has been a learning process.
Raj, 39, the director of financial advisory company Blue Wealth Capital, says: ‘It’s quite an old property. There have been one or two problems with condensation and a leak. We’re on good terms with our tenants, which is important. Any jobs that need doing we sort out via email.’
“It will help our boys in the future”
Raj says keeping the property rather than selling has been a good decision.
‘We’ve incorporated the house into our financial planning. It could be a property that we pass on to our boys to help them get on the housing ladder or it might serve to bring us an income during retirement. It’s just nice to know it’s there.’
‘Accidental landlords’ need to contact their lender for permission to let the property and the mortgage rate may be revised. Without permission, you are in breach of mortgage conditions and the loan could be called in.
Your home insurance company must also be told it is a let property, which will mean a change of premium.
Also, be aware of legal requirements for gas and electricity safety certificates on gas appliances. All rental properties must have an EPC (energy performance certificate), valid for ten years, before going on the rental market.
You’ll need to know a lot about an area to choose the best spot. That’s why investors — and particularly novices — tend to buy a property close to where they live.
You’re likely to know this market better than anywhere else (more than estate agents who might try to pull the wool over your eyes) and can pick out the kind of property and location that you want.
It also makes it easy to keep an eye on the property and react swiftly to problems.
To save money, you might consider buying a rundown property that you can do up. But this is a risk. As well as eating up your spare cash, the property will remain empty while you carry out repairs.
Common mistakes that novice landlords make are buying a home at a reduced price because they think it will save them money (it rarely does) and snapping up a property they would like to call home themselves (you won’t live in it).
It’s all about unearthing a good location for the market that you have chosen. Put yourself in a tenant’s shoes.
FIND OUT WHAT YOU CAN BORROW
There are two ways of getting the money you need for a buy-to-let deposit. You may have enough in savings or have taken a tax-free lump sum from your pension and plan to use this cash to buy a house outright or at least put down a hefty deposit.
Or you may have a small deposit and intend to use some of the equity built up in your own home.
This is not unusual, particularly for those who have been in the same house for a while and seen the value of their property increase significantly. It involves going to your mortgage company and asking to take out a bigger loan on your current home.
You may have £75,000 left to pay off, but your property has increased in value from £200,000 to £350,000. You could extend your borrowing to £150,000 and take the extra £75,000 to use as a deposit for your buy-to-let mortgage.
Remember, though, that this will increase your monthly mortgage payments — for someone with ten years left to pay off their existing deal, it would double from £724 to £1,448 on a typical mortgage rate of 3 per cent. The advantage is that nowadays there are some of the cheapest mortgage rates around.
YOU’LL NEED A 25PC DEPOSIT
After you have worked out the best way to fund your investment property, it’s time to find a buy-to-let mortgage.
These are different from normal residential mortgages and the banks make borrowers pass different (though still stringent) tests.
First, they will want the potential rental income to more than cover the mortgage. As a yardstick, nearly every lender will insist on the monthly rent being at least 125 pc of the monthly interest payment on your loan. This means that a £500 interest payment needs a monthly rental income of at least £625.
Second, be prepared to put down a deposit of at least 25 pc. For the most competitive rates, you’ll need 40 pc or more.
As a rule, buy-to-let mortgage rates tend to be more expensive than residential loans. This is to reflect the greater borrowing risk to lenders of a default, whether from bad tenants, indebted owners over-stretching themselves or a shock interest rate rise.
Buy-to-let interest rates have fallen along with other mortgages in recent years. As a guide, you can get a competitive five-year fix at 3.19 pc if you have a 40 pc deposit. The cheapest equivalent for ordinary residential borrowers would be 2.24 pc — nearly a third less.
A 30 pc deposit could mean you pay slightly more for your buy-to-let loan— 3.89 pc. And if you have the usual minimum of 25 pc, then you can expect to pay 4.14 pc.
Try an independent fee-free broker, such as London & Country. They can analyse your personal finances and give you a guide to what you will be able to borrow. Like ordinary residential loans, this will depend on how much you earn and any other income from investments or savings.
If you’re already a homeowner, the broker will assess your existing mortgage and how much equity you have in your home.
Though a mortgage means that you already have a lot of debt, being an existing homeowner is no barrier to buy-to-let. In fact, it shows that you can manage borrowing large sums of money.
IS INTEREST-ONLY THE BEST OPTION?
With buy-to-let, you will almost certainly end up taking out an interest-only mortgage.
These days, when you borrow to buy a house to live in yourself, you take out what is called a repayment mortgage.
This means that each month you pay back a chunk of the original capital sum you borrowed and some interest on top. Over a typical 25-year term, you repay all the debt and end up owning the house.
But buy-to-let borrowers take out an interest-only loan instead. It is much cheaper, as there is no capital to repay (and there are tax benefits, too).
For example, on a £150,000 mortgage at 4 pc you would pay £792 a month as a normal borrower on a typical 25-year term loan, but £500 a month as a landlord with an interest-only mortgage.
This frees up extra cash for a landlord to cover maintenance costs. If you hold the property for 25 years, then the rise in its value should go a long way towards clearing the original sum you paid for it (though this does mean selling up).
Buy-to-let is not covered by the tough new lending rules known as the Mortgage Market Review, which banks make borrowers sit through. But that doesn’t mean you won’t have to pass stiff tests.
For example, while you might get a buy-to-let deal at 4 pc, you will have to pass a check to ensure you could still afford your repayments if the rate happened to jump to 6 pc.
It is important to note that stamp duty land tax is payable on all buy-to-let properties sold for more than £125,000 at the same percentage rates as for residential homes.
GET THE RETURNS THAT YOU NEED
It won't be worth viewing potential properties unless you have crunched the numbers. That will give you an indication of how much you can spend on a property, the rent you hope to attract and the costs you will incur if it lies empty for some time.
TIP Talk to a friend, neighbour or colleague who is already a landlord and pick their brains about their experiences. You could learn practical lessons from those who have been through it all before.
As with any investment, you’ll need a yardstick of whether you are getting good value. With buy-to-let, this is known in industry jargon as a ‘rental yield’.
At its most simple, this is an estimated annual return on your investment, expressed as a percentage of your property value. Let’s look at an example. Say you’re a cash buyer and buy a property for £200,000. Let’s assume that the property brings in £1,000 in rent each month — in other words, £12,000 a year. You divide £200,000 by £12,000, which gives you the yield of 6 pc.
This looks pretty good compared with what you could get elsewhere. It’s three times what you’d get in a cash savings account and better than an investment fund that pays an income.
But this isn’t the end of the calculation, as there are other costs to take into consideration.
These will include maintenance costs, insurance, ground rent, service charges and possibly letting agents’ fees (which will have VAT on top).
Let’s go back to the same £200,000 property. Say you buy it with a 25 pc deposit, so you put down £50,000 and take a £150,000 mortgage. At a reasonable fixed-rate of 4 pc on an interest-only rate, that works out at £500 a month, giving you annual costs of £6,000.
Most brokers estimate that your maintenance costs and insurance will add up to about 10 pc of the rent you bring in — £1,200.
IT'S A FACT! Nearly 80 per cent of landlords rent just one home and fewer than one in ten is a full-time landlord
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So, how does this affect your returns? Tot up the extra annual costs — mortgage (£6,000) and maintenance (£1,200) and your returns are down to £4,800. Your yield is now 2.4 pc. This is still better than a savings account, but it’s much less attractive.
Add in fees from a lettings agent — costing another 10 pc, so another £1,200 — and it slips even further to 1.8 pc.
Of course, in one year you might spend hardly a bean. But it only takes a flooded kitchen, broken boiler or a tenant who goes missing owing you rent to scupper your financial plans.
TELL THE TAXMAN AND PAY LESS TOO
Buy-to-let will bring new pressures to bear, especially for newcomers, as it may mean filling in a self-assessment tax return for the first time.
With buy-to-let property income, you need to pay income tax on the profits you make. This income will be added to your existing income, which may mean you get pushed into a higher-rate tax band.
But before you calculate your income, you can deduct many of your costs. This includes repairs to properties — new windows, drainpipes and a washing machine, say — as well as letting agent fees, landlord insurance and even travel to and from your property.
TREAT YOUR BUY-TO-LET AS A BUSINESS
A final thing to consider is whether you want to employ a lettings agent to help you rent out and run the property you have bought.
They can do a lot of the day-to-day hard work for you. A ‘let-only’ agent will advertise your property, show potential tenants around it, vet their credit worthiness and then collect the rent. This will cost around 11 per cent of your rental income. But you will need to resolve all other issues that arise.
A full management agent will also look after repairs, sort out maintenance, chase unpaid rent and keep an eye on the state of your property. However, their services will eat up 15 to 17 per cent of your rental income each year.
Always double-check that any agent you hire is regulated by a body such as the Association of Residential Letting Agents.
Don’t forget tenancy agreements, too — they can cost up to £100 to set up if you use a solicitor. By law, your tenants’ deposits must be placed in a Government-backed tenancy deposit protection scheme within 30 days of receiving them.
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You can also deduct the interest you pay on the mortgage from your income tax bill. So, what tax would you pay on your theoretical investment property?
Let’s assume that you already have an income of £25,000 a year —you’ll be paying 20 pc basic rate income tax.
Your property brings in £12,000 rent a year. From this you can then deduct mortgage interest of £6,000 and your costs of £1,200, and letting fees of £1,200. This leaves you with a profit of £3,600. You’ll pay 20 pc tax on this — about £720.
And there is one more tax to pay — capital gains tax (CGT), which may apply when you eventually sell up.
Everyone has an annual capital gains tax allowance, which allows you to cash in up to £11,000 of profits tax-free a year.
On profits above this, you pay 18 pc if you’re a basic rate taxpayer and 28 pc for higher earners.
So, if you bought a house for £200,000 and sold it for £300,000, that’s a gain of £100,000 when you finally sell.
After your allowance of £11,000 (assuming you haven’t cashed in anything else that year), tax is payable on the remaining gain of £89,000. As a basic-rate taxpayer, you would face a bill of £16,020; it would be £24,920 if you were a higher-rate payer.
You can bring down your CGT bill by deducting some of the expenses associated with buying and managing a property. These include the stamp duty you paid when buying it and any fees for solicitors, estate agents and surveyors.
If you have a former home that you let and then sold, you may be able to further cut your CGT bill. If at any point a buy-to-let property has been its owner’s only or main residence, the last 18 months of ownership qualify for a tax break known as private residence relief.
This makes it free of CGT over that period, so any gains during that time can be disregarded. This tax relief was originally designed to protect those who had to move for work, but couldn’t sell their home.
What kind of mortgage is good for you?
LET'S BUY IN... OXFORD: WHERE PROSPECTIVE TENANTS QUEUE OVERNIGHT
WHY
Demand for rentals, particularly among young professionals, is extremely strong. Aside from the university, Oxford is home to a great many medical institutions, so there are a large number of academics and medics on placements or employed on temporary contracts for 12 months.
Agents report that demand for rental property is so high that prospective tenants may queue on the street all night outside a letting agency to ensure they get first choice of new stock.
This is partially fuelled by the fact that privately rented houses occupied by three or more people (including children) who form two or more households require a licence. Houses with two occupants do not require a licence.
WHERE TO BUY
East Oxford, also known as Cowley, is growing in popularity. It is walking distance from the city centre and offers smaller yet affordable and charming Victorian terraces compared with the more traditional areas of Jericho and North Oxford, where property prices typically nudge seven figures.
Cowley is a cosmopolitan area with a wide mix of people and amenities. There is everything from pubs to upmarket restaurants. It was typically populated by students in the past, but is now becoming more gentrified.
Alternatively, go just outside Cowley on the other side of the Oxford ring road into Littlemore and pick up a property for less.
HOUSE PRICES
A one-bedroom flat in Cowley would cost somewhere in the region of £250,000. A three-bedroom house might command upwards of £450,000.
In Littlemore, a one-bedroom flat is cheaper at £200,000 in return for a monthly rent of £850, or a three-bedroom house that could rent at around £1,100 per month will cost £280,000.
WHAT'S FOR SALE?
1. Medhurst Way, Oxford OX4
£270,000
Two-bedroom first-floor apartment with a smart modern kitchen and spacious living room.
Also has an ensuite to the master bedroom.
This would suit a young professional couple. There is no onward chain.
Rental £1,050 per month.
- ANDREWS (andrewsonline.co.uk)
2. Hurst Street, Oxford OX4
£450,000
Pretty three-bedroom terrace house with a 90ft garden and space at the front to store bicycles.
There’s the potential for a home of multiple occupancy for four if you convert the sitting room.
Rental £1,800 per month.
- ANDREWS (andrewsonline.co.uk)
How to pick the mortgage that's right for YOU
Mortgage rates have plunged in recent years — and landlords have been benefiting just as ordinary homeowners have. However, the best deals are reserved for those who meet lenders’ specific criteria.
Experts say that knowing which buy-to-let lender to apply to is key to accessing the best rates.
Because getting a buy-to-let loan can be quite complex, almost all applicants use a broker, with only one in ten going direct to a bank or building society.
A broker can search the whole market for the best deal, while banks and building societies will advise you only on their own products. Expect to pay between £400 and £500 for a broker’s advice.
Some of the biggest buy-to-let lenders offer their rates only through brokers. These include The Mortgage Works (part of Nationwide Building Society), BM Solutions (part of Lloyds Banking Group) and Santander.
But a number of lenders, including Barclays, HSBC, Royal Bank of Scotland and Coventry Building Society, offer buy-to-let mortgages through their branches and over the phone.
ENSURE YOU DO YOUR HOMEWORK
Buy-to-let can make a compelling investment — but it’s not for everyone.
Spend as much time as you possibly can researching the sector, what your likely returns are and how you might cope financially if you can’t find tenants.
If you have a pot of money that you want to use to generate an income, property is not the only option.
Speak to a financial adviser if you want to explore other options that might suit your circumstances better.
It may cost you a small fee, but it could be money very well spent if it means making the right decision.
If you decide to go ahead and need a mortgage, consult a broker who can help to decipher what you can afford and where the best deals are.
Patrick Connolly, an investment expert at independent financial firm Chase de Vere, says: ‘Don’t buy without considering alternatives for your money.
'Property is not a liquid investment, which means if you need to get your hands on the capital, you will have to wait for the place to sell — which could take months or even years.’
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‘Lenders’ criteria varies hugely, which makes it difficult,’ says Martin Stewart of mortgage broker London Money.
‘Some lend only to those with quite a small number of buy-to-let properties or to those buying “standard” property. They also have different ways of assessing whether you can afford the loan.’
Most lenders will require the rental income of the property you are buying to be 25 pc to 30 pc higher than the monthly mortgage repayment. Some will also ask you to demonstrate a minimum income separate to your rental earnings.
Ying Tan, of Surrey-based mortgage broker The Buy-To-Let Business, says: ‘Of course, everyone wants the best rate, but most people fit only two or three of the lenders’ criteria.’
If you need to buy a property quickly, that can restrict your choice further. The time lenders take to turn around an application to a mortgage offer can vary from two to four weeks.
The bigger your deposit, the cheaper the mortgage rate you will be able to access. Most lenders will ask for a 25 pc deposit as a minimum.
Doug Hall, of Cheshire-based broker 3mc Mortgage Club, says: ‘To access the widest range of deals, you need at least a 30 pc deposit, £25,000 of income separate to rental income and to be buying standard property, such as a one or two-bedroom flat.’
Once you’ve met the criteria, choosing the right type of mortgage will depend on the strategy for your investment.
Are you looking for capital growth or regular income? Will your buy-to-let portfolio form part of your pension?
An interest-only mortgage is a popular option for those who want to take income from the property each month. These mortgages allow borrowers to pay just interest during the term, but they must clear the full debt when the mortgage term ends.
‘The main concern for borrowers is ensuring there is enough of a gap between the monthly mortgage payment and the rental income,’ says Stewart.
‘Remember that the mortgage payments will need to be met regardless of whether the property has tenants. If you had a void period of a few months, that could put your finances under pressure.’
David Whittaker, of Kent-based broker Mortgages For Business, says repayment mortgages, where the interest and some of the capital is repaid, are more popular with landlords using buy-to-let as part of their pension. ‘If you are investing in buy-to-let as a pension strategy, you will want to own the property at the end of the loan,’ he says.
TIP Got an iPad or tablet? The Rental Calculator app on iTunes helps landlords to calculate their monthly gain after all costs
Another decision is whether to choose a variable or fixed-rate mortgage. Fixed rates guarantee what you will pay each month but tend to be more expensive.
According to Moneyfacts, the average two-year, fixed-rate buy-to-let mortgage is 3.43 pc, down from 3.95 pc a year ago. The average two-year, variable rate is 3.20 pc (3.96 pc a year ago).
‘Many full-time landlords have a mix of fixed and variable rate loans to spread the risk of rates going up,’ says Whittaker. ‘We are recommending a lot of five-year fixes at the moment.’
Product charges can also have a big impact on the amount you will pay over the mortgage term.
Large arrangement fees are common for buy-to-let mortgages, while some lenders calculate them as a percentage of the loan.
Charlotte Nelson, of Moneyfacts, says: ‘Investors should try not to be sucked in by the low headline rate and assess the true cost of the mortgage instead.’