A successful landlord can earn money on two fronts; through a steady income stream from rental income that covers the mortgage with a little extra on top and through the capital appreciation that the property is generating as house prices.
However, not all buy-to-let investments go smoothly in reality and there are potential pitfalls that can hinder the success of the investment.
These can be reduced through careful planning and managing your investment in the right way.
Planning your investment
A potential landlord can vastly improve their chances of running a profitable property portfolio if they plan their investment carefully and do not overreach themselves.
If you are considering investing in property it means tying up your capital for a long period, so you need to be sure that the funds won’t be needed for something else.
Is buy-to-let right for you?
To decide if a buy-to-let mortgage is right for you, you need to consider whether you can afford to pay the mortgage on the property if interest rates go up.
You also need to find out if you will be able to borrow the money needed to take on a buy-to-let mortgage. Typically, a buy-to-let lender will want to make sure that the rental income on the property is 125 per cent of the mortgage repayments and will also want a deposit, typically of at least 20 per cent.
Even though mortgage rates are low, rates and fees for buy-to-let mortgages are higher than the equivalents on residential mortgage products.
Once you have done the maths and are happy that you can manage the financial requirements of the investment, it is a good idea to write a business plan to make it easier for you to obtain mortgage finance and help you plan and manage your investment.
Research the market
It is vital to study the area you are thinking of investing in. This will help you work out which types of properties are suitable for the area and have the highest demand from potential tenants.
Choose the right area
Do some research to find out who is looking for property in the area in which you want to invest. However, the choice of property that you want to buy will be limited by finances.
Therefore, there is no point in investing in an area popular with families if you can only buy a one-bedroom property. But if the area you are looking at is popular amongst students and young professionals, then this type of property could be ideal and will provide you with a flow of tenants.
House prices and remortgaging
A potential buy-to-let landlord also needs to make sure they can cover a period when house prices fall and that they will still qualify to be able to re-mortgage at the end of the term on the product they hold or be able to afford the repayments if they are moved to a lenders standard variable rate (SVR).
Repairs and maintenance
This can potentially be an expensive aspect of running a property to let out to tenants. It is unlikely that all the people who live in the house will be as careful as you like and certain expenses such as a new boiler can be very expensive and even wipe out any excess income you have above the mortgage payments from an investment property for a few years.
When preparing your business costs you need to be realistic and factor in potential costs such as managing agents’ fees, repairs and maintenance and potential non-payment or delayed payment of rent.
Income from buy-to-let property is also subject to income tax because it is classed as business income. When selling a property, it will be liable for capital gains tax and if a landlord dies, the property will form part of their estate and be subject to inheritance tax.
Periods without a tenant
When planning finances the potential periods when the property is vacant in-between tenants should also be allowed for.
It is wise to factor in no income from the property for at least ten per cent of the time and to identify a source that you can use to repay the mortgage during these periods.
You may decide to use letting agents to manage your property and find tenants for you. This is often a good idea if you have a full-time job and little time to manage your property investment. Remember to haggle over the fees though.
Financing your buy-to let mortgage
Lenders will take into account your income, the amount of deposit you can put down and the likely rental income that will come from your property.
A lender will want to be sure that the income generated from the property outweighs the cost of repaying the mortgage, the cost of maintaining the property and the total cost of selling the property.
You will need to instruct a solicitor to deal with the legal aspects of your buy-to-let purchase such as conveyancing and the mortgage paperwork.
You will also need to have a written tenancy agreement in place and to put any deposit money into a Tenant Deposit Scheme The Government’s Tenancy Deposit Scheme came into force on the 6th April 2007. Since then, any tenancy deposits received in connection with an AST - assured shorthold tenancy - must be handled in accordance with one of the three Government approved schemes. This is to ensure the tenant’s deposits are protected.
Rental yield and controlling costs
Rental yield is the amount of money a landlord receives in rent over one year, shown as a percentage of the amount of money invested in the property.
So, to calculate rental yield you should take the amount of rental income that will be earned over a year as a percentage of the properties purchase price or value. So a property that provides an income of £10,000 a year on a cost price of £200,000 would have a five per cent rental yield.
Demand for rental property in many areas remains high as it has become more difficult for many to get a mortgage and the housing supply remains low. But the days of double-digit property growth seen in many of the 10 years up to the financial crisis in 2008 are over, so the focus should be on finding a property that delivers a competitive rental yield of, say, five per cent or more together with the potential for some capital appreciation.
Investment in property should always been considered as a long term venture.
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