The boom and not bust guide to buy-to-let

A lack of mortgage finance for first-time buyers has boosted the buy-to-let market. Rob Griffin reports
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The Independent Online

Buy-to-let is enjoying a return to favour among investors as more people than ever turn to renting. Figures from the Communities and Local Government Department published this week revealed a 55 per cent increase in the past six years in the number of people renting privately owned accommodation.

This increase has prompted a resurgence of interest from prospective landlords hoping to profit from rising rental yields, while acquiring a decent asset. It means buy-to-let, which has effectively spent the last three years banished to the wilderness, has come back with an increase in both the number of mortgages available and confidence levels among potential buyers.

Industry commentators claim the area is recovering well from the credit crunch which resulted in a lot of lenders falling by the wayside – and those that remained having to dramatically tighten their lending criteria.

Steve Reid, retail director for Clydesdale and Yorkshire Banks, says the key to buy-to-let, like any investment, is solid research. He's quite positive about the current market as "demand for rental properties is outstripping supply and the market has seen an upturn in the yields being achieved".

David Hollingworth, of the mortgage broker London & Country, is also upbeat. "A number of lenders have returned to the market and new names are appearing," he said. "The rates on offer are getting a bit more competitive."

His claims are backed up by figures from the Council of Mortgage Lenders (CML) which reveal that new buy-to-let mortgage lending totalled £2.9bn across 27,600 loans in the first three months of 2011 – up on the £2.1bn and 22,000 loans during the first quarter a year ago.



buy-to-let basics

The definition of buy-to-let is a form of residential investment where you buy a property – normally with the aid of a specialist, buy-to-let mortgage – and then rent it out. As well as generating an income from the rent, potential investors hope the capital value of the property will rise over time.

In the best-case scenario, therefore, the property will be earning money for its owner on two fronts – a steady income stream which covers the mortgage payments plus a bit extra, as well as buying something which you will be able to sell for a profit. An analysis of the buy-to-let market over the past decade certainly paints a picture of rapid growth, even when you take into account the problems encountered over the last few years. At the end of 2000 there were 73,200 outstanding loans worth £5.4bn. By the end of 2010 there were more than 1.3m mortgages valued at £151bn, according to CML data.

It may be growing in popularity but does it stack up as a viable investment? Are there still too many potential downsides?

Geoff Penrice, an independent financial adviser with Honister Partners, is willing to buy into the longer-term story, but he's troubled by shorter-term issues that are influencing the market.

"Properties will increase in value due to the shortage in supply so it may prove a worthwhile investment," he says. "However, I don't believe we will see the sort of returns that we have done recently and there will be some downward pressure in the short term as real incomes are falling."



Is buy-to-let right for you?

Regardless of the market environment, yYou need to decide if buy-to-let is for you. So ask yourself a series of questions. Do you have sufficient capital at your disposal? Are you happy to tie up this capital for a number of years? Have you the resources to manage the property?

If the answer to any of these is no, then it's not worth getting involved. However, if you're still keen to proceed, then you need to do your research. Be realistic about how much you can afford, remembering to have cash to cover unexpected costs and for periods when the property is empty.

There are clear pros and cons about getting involved in buy-to-let, according to Geoff Penrice.

"People need to live somewhere so there will always be demand, property is tangible so you can see and touch it, and prices should also increase over the longer term," he says. "However, it also seems quite expensive relative to earnings at the moment and interest rates can only rise from here."

In addition, there is the risk that existing homeowners may end up having too much tied up in one area, rather than diversifying their assets. "There is also the liquidity risk as it can be very difficult and expensive to sell a property should you wish to release your capital," he adds.

Finding a property

It is important to research your market. Ask local letting agents what type of properties are in demand.

Ideally, choose a property in a good location with local amenities and access routes. Visit potential properties at different times of the day to get a feel for the area and put addresses through the Google search engine to provide more information.



Securing finance

Getting finance can still be a challenge, according to Mr Hollingworth.

"A couple of lenders will stretch to 80-85 per cent loan-to-value, but generally you need to put down 25 per cent, and some of the keener rates will only be available to those that are only looking to borrow around 60 per cent."

Arrangement costs can be steep – as much as 3.5 per cent of the mortgage – while even lenders offering flat fees will be demanding up to £2,000.

"How much you can borrow will depend on the rental income the property can generate, with lenders looking for about 125 per cent coverage of the mortgage interest," he adds. "The interest rates charged will be roughly one per cent higher than in the residential market."



Being a landlord

Anyone harbouring dreams of owning a buy-to-let property will also need to face up to the harsh realities of becoming a landlord, warns Tessa Shepperson, a specialist solicitor and author on residential landlord and tenant law.

"Becoming a landlord is perceived as being easy money but that's not necessarily the case," she says. "If you know what you're doing, get it right and are lucky with your tenants, you can make money for not a lot of effort, but it doesn't always work out like that.

"If you're unlucky enough to be stuck with one of these people that don't pay the rent nor look after the property properly, it can take you six months to get them out."

Before letting anyone through the door you will need to check them out. Ask for references, meet them face-to-face, get them credit checked and talk to their employers.



Conclusion

So where does all this leave the would-be landlord? There are thousands of people enjoying a decent rent each month – and it's possible as long as you research the market, buy a property for a decent price and find a reliable tenant.

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