Qualifying for a buy-to-let mortgage depends not on your income as with conventional deals but on the estimated rent you hope to achieve with your bricks and mortar investment. If the rent is more than the mortgage by a certain amount then you can expect the green light. Before a change in the market a few years ago landlords had to take out mortgages that were more expensive than conventional deals and the criteria to qualify for a buy-to-let mortgage used to depend on income. This excluded 90 per cent of current landlords. Now lenders usually require the rent to be at least 125 per cent of the mortgage payment. So, for example, if the mortgage you’re after will set you back £500 a month you will have to show the lender that the property you buy could attract a rent of £625.
The Association of Residential Letting Agents (ARLA) tells landlords that they need to be able to obtain gross rent equivalent to between 130 per cent and 150 per cent of the rental property’s mortgage repayments. Its recommendations are slightly higher as it says to make a profit landlords will need to take into account void periods (when your property is empty or between tenants), insurance, maintenance costs and the day-to-day letting costs. Also, if you are using a letting agent to help you manage your investment they will on average charge 10 per cent of the rent, or 15 per cent if they are responsible for such things as repairs, complaints and other matters.
When these changes to the lending criteria for buy-to-let deals first came about the market went crazy with new investors. Things have since peaked and we are in the position where the market has saturated in many areas across the country with too many properties available to tenants. That said, experts always stress that buy-to-let is not a get rich quick scheme but a long-term investment. Some insist that because your rent should cover your mortgage by over a certain percentage, even in the worse case scenario – such as when both the rent and the price of your house falls – you’d still be breaking even and be in a position to sit tight until the market picks up.
Investors need to cater for void periods with contingency funds.
Ideally you should have up to 3 months worth of mortgage payments,
ff you haven’t you shouldn’t be doing buy-to-let. But while buy-to-let is generally not a good idea for people who are right up against it in terms of budget there are more and more remortgage deals out there which will fund a deposit for a home. Also, if you are worried about losing money during void periods many companies will offer insurance which will deliver as much as six months mortgage payments in the event of a property remaining unoccupied.
But you could be lucky, find a buy-to-let hotspot and make a killing. Buy-to-let trends don’t just differ from town to town but from street to street. The best thing a potential investor can do is to visit his or her local letting agents before buying. They can tell you who is renting what at the moment so you can define your target audience. It could be students, young professionals or families, for example. Look for areas that do have a shortage of properties and for indicators that people will move there, such as new business developments.
There are without doubt pockets around the country where the market has saturated such as London and places with big student populations like Manchester and Leeds, but there are still swathes of the country where there is good demand for reasonably priced properties. Places such as the Thames Valley and M4 corridor where there is high employment – mainly through contract workers. A lot of these people live in other parts of the country, so they need somewhere to rent in the week then they will go home at the weekends.
Because there is such scope to spread your net further, buy-to-let mortgage deals are rife and the rates are almost as competitive as with conventional deals. The only difference is that because you pose more of a risk to your lender by letting a property you’ll have to fork out a larger deposit and pay higher fees. Usually the deposit is a minimum of 20 per cent of the value of the property you’re after. Some lenders will ask for a 25 per cent deposit and fewer still will allow a 15 per cent deposit. First-time landlords are deemed a greater risk and as such the deposits they need are even higher, For example with the Sun Bank’s buy-to-let deal, new investors will have to provide a 25 per cent deposit – higher than the amount single property landlords or portfolio investors (those with two or more properties) have to provide. First-time landlords will also have to prove they have a minimum income of £40,000 with three months of payslips or two years accounts.
Another indication of the success of buy-to-let as an investment is the choice you have of paying off your home loan . Just like with conventional deals you can choose from fixed, discounted, variable and tracker mortgage products. You can even choose a combination and flexible options are becoming increasingly common. Flexible mortgages allow the borrower to overpay, underpay, take payment holidays, borrow back from the mortgage and benefit from daily interest calculation. These options can be a godsend as it allows you to overpay when you have tenants and money coming in, then take payment holidays if you need to during void periods when you don’t have rent coming in. You can also draw down money if you want to carry out work or repairs you your property.
But the more profit you make on your investment the less you have to worry about mortgage payments. Tax will be a concern, however. Any profit you make on your buy-to-let investment will be classed as income and you will be taxed on it at the appropriate rate for you. For example, 22 per cent if you earn £30,500 or less. However, as the profit is added to your main salary it might push you over to the next tax bracket. A good trick if you care married to someone who is on a lower tax band is to put the property in their name.
You will also need to keep your books up to date as under the tax self-assessment rules, it is the responsibility of the landlord to keep accurate property income and expenditure records for nearly six years. If you don’t you could be fined up to £3,000.
However, there are expenses you can write off such as repairs (boilers can cost thousands to repair, for instance), water rates, insurance, management fees and wear and tear.
People also worry about the prospect of incurring capital gains tax if they sell their buy-to-let property. But few people sell their buy-to-let property. Many use the investment as an alternative to a pension and many pass them on to their children.
Investors need to look at what they want. Do you want income or capital appreciation? If you’re looking for capital appreciation you can be more flexible with your rent because you wouldn’t be relying on an income from a tenant. You can charge rent that undercuts the going rate for the area so there’s always demand. If you want to generate an income you need a good return so you’ll need to be sure you’ve got premium tenants paying premium rents.
In either case, the mantra with your buy-to-let must be ‘don’t expect to get rich quickly’.
You need to look long-term: an absolute minimum of five years – but probably nearer to ten years.