The type of lending known as Buy to Let has been around for quite some time but the actual term, Buy to Let came into being in 1995 when in fact it was invented by the Association of Residential Letting Agents.
Investing in Buy to Let properties has been more popular over the last few years than ever before. Bank rates have dropped so low that interest paid on savings has become practically non-existent. Indeed I recently came across a bank who was offering 0.01% interest on savings, which effectively means that for every £1000 deposited, the saver would receive the vast sum of £1 in interest!
From around 1950 onwards, the ambition of every newly married couple was to purchase a small house based on a minimum of a 25 year mortgage. The property would increase in value over the years and so when the couple reached retirement age, they would sell the house and use the appreciated value to set up a good pension based on interest received from the deposited sales price. This no longer works and so the baby boomers have had to find other ways of creating a pension.
The demand for investment property particularly for the purpose of Buy to Let has been steadily increasing over the last 12 months for a number of reasons.
General mortgages are now more difficult to secure. The deposit is normally at least 20% of the purchase price and the financial examination by each of the lenders has now become so severe that the number of successful borrowers has fallen away.
People are now finding it necessary to rent in order to live but there is a countrywide shortage of suitable council properties, not only as a result of new council properties not having been built for quite a few years, but also as a result of the recently introduced Bedroom Tax.
Private landlords are now the biggest source of rental property that is currently available in a lot of areas. Therefore with the demand for such properties, and with the gradual improvement in property appreciation rates, it makes sense for those with the financial wherewithal to consider making an investment in property.
A second property needs to make a full return, apart from natural appreciation and you must always remember that the value of property can also depreciate, as has become obvious from the recent worldwide financial collapse.
The question arises then how to buy an investment property and what is the best method.
Most people who wish to make a property investment are not in the enviable position where they are able to put cash upfront for the property. Whilst they may have a reasonable amount of cash to hand, it would not be sufficient to pay any asking purchase price and therefore the alternative is to secure a mortgage on the property.
The first thing you have to consider is that if you intend to purchase a property with a view of letting it out to private tenants, then effectively you are creating a business. This means that you are unable to obtain a normal owner/occupier mortgage since this would not apply to any form of business.
Your only option then is to seek a fully-fledged Buy to Let mortgage which is specifically designed to meet the market in question. But there are a number of differences between this mortgage and the well-known owner/occupier mortgage.
The primary difference with a Buy to Let mortgage is the manner in which a lender will calculate the amount of loan they are prepared to grant against a particular property.
With an owner/occupier mortgage, the lender will want to determine the value of the property on the open market. The main aim is to determine that if you the borrower defaults, then the lender will be able to recoup their losses when they repossess the property and sell it.
You will recall that I mentioned earlier in this article that when you become a landlord, you effectively are setting up a business because you are renting out the property in order to gain an income. This is how a lender will judge the amount they are prepared to give on a Buy to Let mortgage.
The lender needs to be sure that the monthly rental will be sufficient to cover the amount of the loan and therefore when they carry out their due diligence, they will verify that the average monthly rentals in the area are similar to those that you intend to charge. I will come back to this point later in the article.
A lender will usually require a larger deposit than normal which can equate to roundabout a 25% valuation of the property, even though the final loan will be based on the rental value of the property.
All fees associated with this type of mortgage are generally found to be far in excess of those applied to a normal residential mortgage. These often include an arrangement, valuation and booking fee and in most instances, you will be asked to pay these fees upfront and not add to the overall loan.
You will find that you will be paying a greater rate of interest, no matter if the mortgage is on a fixed rate or a more variable tracker rate. This interest difference can be up to 2% or more in excess of those normally imposed on a residential mortgage.
Unlike a residential mortgage, Buy to Let mortgages are not regulated and therefore can allow a lender to impose a greater variety of terms and conditions than those normally included in a residential mortgage. These can include a restriction on the type and length of any letting agreement that you may have with your tenants; a limit on the number of Buy to Let mortgages you may hold at any one time and restrictions have been known to exclude a variety of tenants which the lender would not consider to be viable.
As I said earlier in this article, the amount of loan that a lender is prepared to grant is not considered in the same way as that applicable to a normal residential mortgage.
The lender is perfectly aware that you have bought this property for an investment and that you propose to let out the property in order to repay the mortgage. Therefore their main concern will be as to whether the monthly rental will be sufficient to:
The understanding of this type of mortgage is that the principal loan will be paid off when the property is sold and is therefore not designed to be a long-term repayment mortgage that pays off the full loan over a period of time.. The lender will seek to determine how much rent you will achieve on a monthly basis and then compare this to the monthly mortgage repayments so that they can satisfy themselves that you will be able to afford the interest.
On this basis, as well as looking at the amount of the loan as a proportion of the overall value of the house, they will also be looking as to how this relates to the rental income. They normally expect a minimum monthly rental to be some 25-30% greater than the interest repayments on the mortgage.
It is also worth bearing in mind that most lenders will not even consider granting a Buy to Let mortgage for private investment unless you are personally earning a minimum of £25,000 and you already own your own home! Whatever happens, do not think for one moment that you can use a standard owner/occupier mortgage to purchase a Buy to Let property, since you will effectively be in breach of the terms and conditions of such a mortgage and may also be charged with outright mortgage fraud.
Unfortunately, there is no real answer to this question because every area is different.
The most expensive areas or indeed the cheaper ones do not necessarily mean that these are the best places to purchase a Buy to Let property. What you are really looking for is an area where people want to live. So for example if you are considering a property investment within a popular commuter belt area, then your property needs to be close to good transport, be that road, rail or bus.
If you are aiming for the type of property which a family would like to rent, then you need to give consideration to the provision of schooling, recreational facilities and a good range of shopping in the immediate vicinity.
Now I am well aware that the vast majority of first-time property investment Buy to Let owners prefer to select a property that is in close proximity to the area in which they currently live. However, it is often better to look further afield. For example, if you live in the south of England, it is common knowledge that properties in this area are expensive. But if you were to look further north to either the Midlands or north-east area, you will find not only cheaper property but also a good demand for private rental property.
Always remember the reason behind your investment. Your first target is to purchase a property that has reasonable chances of appreciating in value over a predetermined period of time. Whilst your mortgage for this investment will more than likely be on an interest only basis, then you need to be sure that you can obtain sufficient rent to meet mortgage repayments. But this is not your only aim since, as a small business, it is reasonable to assume that the monthly rental will be sufficient to provide a personal small income at the same time.
The type of property you buy can also be very important. Some prospective landlords concentrate on flats whilst others look at ¾ bedroom detached family homes.
One of the most prolific private investment landlords in the country invests purely in two bedroomed semi-detached new build properties and within a period of 15 years built a property empire almost from scratch which now consists of in excess of 1000 properties. Incidentally, they are due to retire shortly and so withdraw from the rental market. They anticipate making a pre-tax profit on their properties of somewhere within the range of £80 million – not too bad for between 10 and 15 years work!
So let me summarise the main points you need to consider when you want to buy an investment property using the facilities of a Buy to Let mortgage.
Yes, property investment does have it its risks but the general opinion seems to be that investing in such properties using a buy to let mortgage so that the property can produce a reasonable rental income, is becoming more popular with those that have the financial capabilities.