Buy to let was, until recently, beloved of a significant proportion of the British public. It was seen as a fail-safe way for inexperienced, wannabe investors to make a significant return on a relatively insignificant investment. This attitude was fuelled by the ready availability of mortgages with extremely high loan to value ratios; at one time it was possible to get a mortgage for more than 100% of the value of the home.
This 'golden age' of course turned out to be unsustainable. However, if you are aware that your returns may not be at the stellar levels seen by some investors a couple of years ago and you are able to effectively manage your investment, buy-to-let can still be a sound proposition.
In many ways, the current state of the property market allows entry for some investors who would previously have found it impossible to buy. It is estimated that the average property is on the market for a figure around 20% higher than the amount for which it will eventually sell, meaning that there is significant scope for negotiation. This is very much a buyer's market.
Furthermore, the rental market benefits enormously as fewer and fewer people are able to purchase their own home. Mortgage approvals dropped around 50% in the past six months and, unsurprisingly, rental demand increased by approximately the same amount. By the measure of supply and demand, buy-to-let is still a potentially viable investment.
If you are considering a buy-to-let investment, there are a number of factors that must be considered from the outset. Amongst the most important of these is the loan to value ratio of your buy-to-let mortgage. The loan to value ratio, or LTV, is an expression of the amount loaned by the creditor, in relation to the total value of the property. So, if you wanted a £100,000 mortgage to purchase a £120,000 house, the LTV would be 83% (mortgage amount divided by property value). Most advisors now suggest that you should not take on a mortgage with an LTV of less than 85%; in other words, you should be able to put down a deposit of 15%.
Buy-to-let as an investment can work in two different ways; either the investor seeks a return on the capital appreciation of the property (that is, they bet that the property will rise in market value over the course of their ownership), or they seek a profit on rental payments.
Capital appreciation is certainly not a short term benefit as the current house price tumble is proving. Therefore investing in a rental property now means keeping a firm eye on the future and being cautious in the present. You should ensure that your rental income is equivalent to at least 125% of the mortgage repayments. This will ensure that your repayments are covered, and that you will have sufficient cash for emergency repairs, service charges and any other contingencies.
From the outset you must be confident that you could bear the cost of a rise in mortgage rates. Although interest rates are falling now, unless you have a tracker mortgage there is no guarantee that the bank will pass the savings on. Generally speaking, you should be confident that you could afford an immediate and unexpected rise of 0.5%.
It is also important to remember that there are numerous sundry costs associated with being a landlord that must be covered by the rent. You may need to perform repairs or maintenance, and if you let the property through an agent you will need to pay their fees. If you buy on a leasehold basis you are likely to have to pay ground rent and for flats, a service charge.
It is important that you also take out sufficient landlord insurance. This type of policy combines building insurance with optional covers like contents insurance, and can help to cover you against damage to the property. Landlords may also require public liability insurance, which can be included in the landlord insurance policy. You should also consider the possibility of having to re-house tenants in the event that your property becomes uninhabitable or of having to cover the mortgage payments if your tenant defaults on the rent. Landlord insurance is a nominal cost which could save you a lot of money in the long term.
Simply Business offers a range of real quotes, and the opportunity to read the policy documents before you buy. This is important, as there can be significant differences between policies. It is therefore vital that you have the chance to read the documentation before coming to a decision.
The choice of whether or not you should invest in buy to let property, given the current market conditions, depends in great part on your medium-term plans. It seems likely that property prices will continue to fall and many commentators are suggesting that another 20% will be wiped off the value of properties by the end of 2009.
As such, you need to know whether or not you will be able to hold onto your property in the event that its value fell or interest rates increased considerably. Imagine, for example, that you buy a property for £200,000. The worst case (but not unlikely) scenario is that it is worth £160,000 in twelve months time. The best interest rate that you could hope for today on an 85% LTV mortgage (that is, a loan of £170,000 in this case) is around 6%, leaving you with monthly repayments of £1235.11.
In order to reach the 125% rental figure you would therefore have to charge rent of around £1555 per month. If you were forced to sell in twelve months time, you would have made £3705 (the rent you have charged over that period, less the mortgage repayments). But given the potential fall in value of your property, you would also have made a net loss of £36,295 and would be in negative equity (where your mortgage amount is more than the market value of your property) - and this is presuming that you haven't had to spend any money on the property in the interim.
Therefore entering the buy-to-let market at the current time is only viable if you have a good deposit to put down, are able to charge sufficient rent to cover outgoings, and are confident about your long-term financial security.
Investors have rapidly realised that buy-to-let is not a foolproof investment. However, for those with existing healthy finances and the time to manage the investment properly, it can still provide excellent long term returns.
