A “buy to let” mortgage is, quite simply, a loan for the purchase of a property that subsequently is let, or rented out, to a tenant, or tenants. Although mortgage products, themselves, are not entirely dissimilar to conventional, residential mortgages, lenders do tend to adopt a slightly different approach to buy to let mortgages.
Typical “loan to value” (sometimes abbreviated to “LTV”) figures are between 75% and 90%, which means that a substantial deposit – of at least 10%, and up to 25%, of the total property value – needs to be raised, before a mortgage application is commenced.
Interest rates, whilst competitive – and certainly far removed from the prohibitive, “commercial” rates that were the norm in to not-so-distant past – are still slightly higher than those for domestic mortgages.
In addition, a mortgage lender will make an assessment of income, and projected rental income, in reaching a decision regarding the total amount that can be borrowed. If monthly rental income is likely to be at least 100%, or often 125% (to allow for “void”, or unoccupied periods), of the necessary mortgage repayment, a decision may be based solely on that figure.
Thankfully, nowadays, mortgage lenders are attuned to the requirements of buy to let property investors, and a wide range of competitive mortgage products is available, including flexible interest-only, or repayment, mortgages – with options for overpayment, underpayment and payment “holidays” – at fixed, discounted, or “tracker” interest rates.
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Buy to Let Mortgage Types
An interest-only mortgage is one in which a capital sum is borrowed from a mortgage lender and monthly repayments are made of only the interest due on that capital sum. In other words, at the end of the mortgage term, the interest due will have been repaid, but the original capital sum will still be outstanding. This type of mortgage – in which the level of debt effectively remains the same throughout the term – has the advantages, compared to a repayment mortgage, of lower monthly repayments, and the possibility of offsetting interest payments against rental income, for tax purposes.
On the other hand, if a landlord is expecting to ultimately sell a property to repay an outstanding mortgage debt, at the end of the term, and property prices fall, he or she may be facing the prospect of negative equity. Buy to let investors do, however, have some protection against falling property prices, insofar as the larger deposits required mean that prices would need to fall by at least 15%, for negative equity to be a real threat. Nevertheless, many landlords do employ another “repayment vehicle”, in the form of an investment, endowment or pension fund, into which regular payments are made, to enable the capital sum to be repaid.
Alternatively, a repayment mortgage in one in which monthly repayments consist of interest, and capital, elements. This means that, throughout the mortgage term, the original capital debt is gradually reduced, and, likewise, the interest due on that capital – so, over time, repayments will consist of more capital, and less interest. Tax relief is only applicable to the interest element of repayments, so this, too, will decrease over the term of the mortgage.
A repayment mortgage does, however, offer the security of knowing that the original debt will be repaid, in full, at the end of the term.
Buy to Let Interest Rates and Options
Many mortgage lenders offer fixed rate mortgages, where the interest rate remains the same, for a fixed period – typically two years – regardless of any changes to the Bank of England base rate. This type of mortgage can be useful for budgetary purposes, since a landlord knows, exactly, the level of repayments required, for that fixed periods.
The interest rate of a “tracker” mortgage, on the other hand, is set at a fixed percentage above, or below, the Bank of England base rate, again for a fixed period.
A variety of discounted rate mortgages is available, from many different mortgage lenders, and discounts may apply for the entire term of the mortgage, or shorter, fixed periods, and subject to the terms and conditions of individual lenders.
Selecting an appropriate buy to let mortgage product can be quite a complex, and time-consuming process, especially for the uninitiated, so the services of a properly qualified independent financial advisor (IFA) may be necessary. A reputable IFA can not only help identify a mortgage product, initially, but also monitor the market for more competitive products, for example, at the end of a fixed term.
Other Buy to Let Considerations
As with any investment, the negative aspects, and potential pitfalls, of buy to let property investment should be considered, alongside the more obvious positive aspects. Be aware of the possibility of falling house prices, the cost of repairs, and “void” periods – one, two, or more, months when a property lies empty, between tenants – and factor these into your business plan. Remember that a landlord is not just a property owner, but a businessperson, with the objective of providing an effective, and, hopefully, profitable service.
If you are considering a long-term, fixed-rate mortgage – and there are some five, or ten, year deals available, at attractive interest rates – make sure that the product really does fit your requirements, and level of commitment; early redemption penalties for these products are extremely high.
Some mortgage lenders may require sight of a tenancy agreement, the most common, and flexible of which is the “Assured Shorthold Tenancy” (or “AST”) agreement – introduced in 1988, and amended by the Housing Act of 1996 – offering security of tenure for tenants, whilst allowing certain rights, regarding rent and repossession of property, to landlords.
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