Conveyancing:
Having a good solicitor handling the conveyancing when you purchase a property can make the difference between a successful and stress-free transaction and a long drawn-out failure.
Income:
Lenders will normally require that the rental income you expect from your buy to let property exceeds your mortgage repayments by 25%-50%. Without this leeway they will often be unwilling to lend you money. A lender may use a different formula to assess your ability to repay the loan, for example using multiples of your salary as with residential mortgages.
Insurance:
You will need good Home and Contents Insurance for your buy to let property, check out our Best Buys at the above link. You should also consider having public liability insurance to cover you in the event of an injury to one of your tenants. You could also consider rental income insurance in case you have a prolonged void period.
Investment Yield:
This should be at the centre of your decision to invest in property and uppermost in your mind when you are deciding which individual property to buy. After all, when you choose a savings account you pay close attention to the interest rate that the various accounts return, don’t you?
The investment yield is the return that you get on your investment. It is worked out by dividing the purchase cost by the total annual rental income that you expect you will receive for that property. The resulting figure is the percentage return you hope to get.
For example:
I buy a property for £240,000. There are three-bedrooms from which I expect to earn a total of £1800 a month in rent. The maximum investment yield I could possibly expect to receive in a year, assuming no void (or empty) rooms, is
Rental Income/Purchase Price*100 = Maximum Investment Yield
(£21,600/£240,000)*100 = 9%
That sounds great! What other investments pay a yield of 9% in today’s low interest rate environment? But, that’s not the whole story. Unless you have the time to source tenants and manage the property yourself, you are going to need to pay someone to manage it on your behalf. Depending on what level of service you choose, a managing agent could charge you around 15% of the value of your rental income.
That would bring your yield down to around 7.7%, and then, of course, even this figure is assuming that all three rooms in your buy to let property are full all year round. This is actually very unlikely to happen year-on-year; it is far more common for at least one room to be empty for one or two months each year. If we assume that two out of your three rooms (worth £1,200 a month in rent) are empty for just two months out of twelve then the effect on your yield is as follows:
Rental income (after agent and voids)/purchase price*100 = Investment Yield
£15,960/£240,000*100 = 6.7%
This is a more realistic investment yield than the maximum 9% we first calculated, but even this depends on ensuring that there are no prolonged void periods. When working out whether a given buy to let property is right for your budget it is well worth playing with your figures to see what the effects of longer void periods or a cheaper property would be.
But even this is not the end of the story. From this net income you need to knock off the costs of insurance and also a sum for annual maintenance on the basis that a tenanted property will need complete redecoration every few years.
Loan to Value (LTV): It is rarely possible to borrow more than 85% of a property’s value with a buy to let mortgage. This is because buy to let mortgages are very often the second mortgage a borrower has. Because of this lenders normally want to see evidence that a borrower is able to take on a higher proportion of the financial burden – by stumping up 15% of the property’s value, in many cases.
Tax: Rental income is taxable at your marginal rate of tax (the highest rate you pay). You will need to fill out a self-assessment tax return and include the net income you have received on that form. This is calculated by taking the gross amount you have received over the year subtracting the costs you have incurred.
The costs you are allowed to subtract include insurance, maintenance costs, any letting agents fees, plus any repairs to the property or its furnishings. However, you cannot include home improvements. When you come to sell your investment property, any profits from the sale will be subject to Capital Gains Tax (CGT).
There are ways to avoid the CGT charge, the main one being to use your buy-to-let property as your main residence for a period before you sell it.
