Five Key Considerations Before Investing in Property to Let

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Young woman handshaking with real estate agent after signing contract.

The UK are big fans of property ownership, approximately seventy percent of property is owned with thirty percent rented, a ratio well above the average in Europe. Although the bulk of the drive for ownership about owning your own home, there’s also a growing popularity in buying property to rent out as an investment. Buy-to-let is a well marketed industry and is presented as an easy access opportunity to the general public. Letting out property as an investment can be lucrative in the right circumstances, however it is still a form of “business”, which has specific rules and requirements to be successful. Many people step into property investment without a full understanding of the many aspects that need appraising. Below are five key considerations, however please note the list is not exhaustive and all investors should do their own research before making their commitment.

Mortgages For the investor usually there are two main methods to raise finance:

Buy-to-let mortgages

Equity release from your own property.

Buy-to-let mortgages are specifically marketed by the financial sector for this type of business. The rates of interest are usually higher than a mortgage taken against your own home. This is because there is a higher perceived risk to the lender in that the loan is usually covered by the rental income from a 3rd party who in this case is not the named borrower. This risk usually also translates into the need for a larger deposit to be put down against the purchase price, for example a 20-25% deposit requirement is typical. In calculating that risk affordability is given extra scrutiny so any applicant may need to evidence a higher degree of affordability at the underwriting process then with a residential mortgage. The buy-to-let mortgage is specific in that it treats your investment as a business case in its own right. Equity release mortgages allow the investor to borrow against the equity in their own home and then use that cash to purchase the Property Investment UK. In this situation the interest rate is more favorable, the lender considers the risk lower as the affordability and means to pay the loan is directly attributable to the borrower directly. The level of borrowing in this situation is determined primarily by two aspects. Firstly the level of loan-to-value, LTV requested, i.e. what percentage of the equity in your home’s value you wish to borrow against and secondly affordability criteria to service that loan. In terms of affordability any potential rental income from this equity release is not considered, so unlike the buy-to-let mortgage you are assessed for affordability based on your current situation only.

Buy-to-let – Pros – Takes into account potential rental income in affordability criteria

Buy-to-let – Cons – Typically higher interest rate & setup cost, higher deposit required than most residential mortgages

Equity release – Pros – Lower interest rate, typically lower setup costs

Equity release – Cons – Affordability criteria usually excludes potential rental income

Other points… Often people move out of their main residence, with the intention of keeping it to rent out and mistakenly assume they can continue to run their residential mortgage on the property. However the risk levels and the terms that the residential mortgage was taken out against have changed, therefore the mortgage lender will require you to change your mortgage to a buy-to-let product or return to residency in the property.

Especially with buy-to-let mortgages there may be other criteria on which properties a company will and will not lend on. For example, some companies will not lend on apartments above the 2nd floor etc. It’s recommended to check this against the property type being considered.

Overall seek professional advice before making any financial commitment.

Potential Rental Market Returns

It helps to know in advance what your economic conditions are, i.e. potential access to loans, available deposit, budget if no finance needed etc… This may help to clarify the amount of monthly rental return you are looking for to both meet expectations of the lender (where finance is needed) and yourself in terms of a given return for your invested money. Surprisingly the reverse often happens, a property is found, committed to and then at that late stage the financials are considered!

Potential rental returns can vary greatly; aspects such as location, property type, property condition, supply and demand are just a few variables so it’s essential to gauge the market correctly. Using a property letting agent is a smart way to get a feeling for what is obtainable. A good lettings agency will provide guidance and advice without obligation. Bear in mind that when a figure is established for rental return some consideration should be given to “voids”, periods of time where the property is not rented. Voids are obviously undesirable but always possible due to the nature of tenants moving in and out. On average a figure of fifteen percent is sensible to account for, as the future is unknown. However, using a good lettings agency can help reduce the void percentage through efficient management and by leveraging their tenant client base and marketing reach.

Evaluating Costs

There are several variables in costs and also some common costs to account for and find out ahead:

Property Type – For example an apartment will typically come with service charges, find out what these are ahead

Furnished or Unfurnished? – If furnishing enhances the rental return or ability to let the property then account for the setup costs of furnishing and also the replacement costs over the years. Again a local lettings agent could advise on the pros and cons of this choice.

Repairs / incidental maintenance – Some upfront accountancy needs to be made for maintenance whether internal or external. Level of cost should be judged on state/condition of property.

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