Key Mortgage Considerations for Property Investors
The buy to let market shows no sign of slowing down any time soon. But getting the right mortgage deal is key to maximising your investment yield.
The past ten years have been rocky for investors. Interest rates have been through the floor, stock markets have tremored, even government bonds started returning negative yields at one point. Yet the property market has remained consistently buoyant through it all.
There are those who say that the market will face its greatest challenge yet when the United Kingdom leaves the European Union in a few short weeks. This might or might not be the case, but it is worth keeping in mind that when other investments plummeted in the wake of the EU referendum, the property market held firm.
There is no doubt that even if prices take a short-term hit, property remains a sound investment in the long term. However, as with any investment, it takes a thoughtful strategy to derive the optimum yield. The first thing that most people need to look at is the plentiful choice of buy to let mortgages on the market.
Understand the fees
When you take out a residential mortgage, you tend to look at the interest rate first and foremost. Of course, this is still an important factor with buy to let, but if you immediately plump for the deal with the lowest rate, you might well be making a mistake.
Buy to let mortgages typically have higher up-front fees, so it is imperative that you sit down with a pen and paper to put the different offers side by side and understand which will be most cost-effective in the long run.
It might sound like a statement of the obvious that you will need to take affordability into account, but here’s the thing: Over the past five or six years, people have been flocking to join the buy to let party, and they have not always done so with both eyes wide open. As a result, the Bank of England (BoE) introduced some quite strict affordability tests in 2017, so be prepared.
A key measure is the Interest Cover Ratio (ICR). This is the ratio to which the property’s rental income needs to cover the mortgage payments. It is tested at a representative interest rate, typically 5.5 percent, and the BoE rules state lenders must look for 125 percent. In simple terms, this means the estimated rental income needs be 125 percent of the mortgage payment. This is the BoE minimum, however, and some lenders work to a higher number, and 140 percent is not uncommon.
If you own multiple properties (typically four or more) you will be considered a portfolio landlord, and more stringent lending rules will apply. In this situation, the lender sees you more as a business, and applies appropriate rules for lending.
More properties mean higher ICR expectations, and lenders will also want to go through your existing finance and cash flow projections for the years ahead. Finally, keep in mind that, just like with a business loan, they will want to know just how highly leveraged you are. This means looking across your entire property portfolio and checking the overall loan to value ratio. If it is any more than 65 percent, they will be reluctant to lend you more.