Buy-to-let property can be a great way to save and
invest for the future, but it’s important you go into it with your eyes open.
When house prices are rising and you have good tenants, buy-to-let property
investment seems like easy money. But there are plenty of risks to prepare for
too. Take your buy-to-let investment plans stage by stage to manage the balance
between risk and return.
1. Start thinking about your mortgage options
Once you’ve found a potential investment property,
you’ll need to secure the finance necessary to buy it. Getting the best
possible deal on your mortgage is a crucial part of maximising the return on a
buy-to-let investment. You’ll need a mortgage specifically designed for
buy-to-let – you must tell lenders if you intend to rent out the property
you’re borrowing against – and these products operate differently to conventional
mortgages for the purchase of a residential home.
2. Make sure you’ve got the right deposit
Lenders generally expect borrowers to put down
larger deposits on buy-to-let mortgages – you will find it difficult to get
away with a deposit of less than 25% of the purchase price and for the best
deals, you’ll need as much as 40%.
3. Check the rent will cover the repayments
The key lending criteria applied by most lenders is
not necessarily how much you earn, as with a residential mortgage, but how much
rent you’ll be able to charge. Lenders will look for a potential monthly rental
income of at least 125% of your monthly mortgage interest payments.
4. Look for the best deals
In general, buy-to-let mortgages are more expensive
than standard residential loans. Lenders argue that they are more risky
products and that they therefore need to charge more. Expect to pay 1 to 2
percentage points more than you would for a residential mortgage – charges such
as arrangement fees may be higher too. Taking advice (see below) will help you
find the most competitively priced mortgage.
5. Calculate the potential return
You’ll often hear buy-to-let investors talk about
the rental yield on their properties (or property portfolios). It’s an
important figure and it’s simple to calculate – the yield is simply the annual
rent you’re earning on the property divided by its value, expressed as a
percentage. So a house worth £300,000, on which the annual rent is £24,000
(£2,000 a month) would be yielding 8%.
6. But don’t forget about costs
However, this is a gross yield, meaning a yield
calculated before costs. Out of that rent, you’ll have to make mortgage
repayments, pay letting agents fees, cover buildings insurance premiums and
find money for maintenance. Let’s assume those costs come to £1,200 a month,
leaving you £800 of profit. That reduces the net yield to a little below 3% a
year. And remember that you will probably need to pay income tax on this money
too.
The example shows just how important it is to do
your sums before embarking on a buy-to-let property investment. You’ll want to
be sure you can earn enough rent to make the investment worthwhile – and you’ll
need to factor in safety margins for emergencies such as a very large
unexpected bill or a period when you don’t have a tenant (or when a tenant
doesn’t pay the rent). The mortgage is the largest cost for most buy-to-let
investors, but don’t forget about other bills too.