The A-Z Guide To Buy To Let Mortgages
Buy to let mortgages (BTL mortgages) are sold to property investors that want to purchase an investment property, and not a home to live in. Once purchased, the investment property will be rented out to tenants, on a long term basis, under an Assured Shorthold Tenancy Agreement.
It is important to understand that BTL mortgages are not the same as residential mortgages. The interest rate on Buy to let mortgages are considerably more expensive than a residential mortgage. Minimum deposits for BTL mortgages are high, starting at around 20%-25%. BTL mortgages have different terms and conditions as compared to a residential mortgage.
Now that we have given you a short overview on Buy to let mortgages, this guide can now take you through the topic in greater detail. Let’s start by examining how BTL mortgages actually work.
How Does A Buy To Let Mortgage Work?
The key considerations when deciding upon a buy to let mortgage product include interest only or capital repayments, the mortgage term, product fees, and whether you have a fixed or variable interest rate. Let's explain these terms in more detail.
Interest Only Mortgage
When buying a property that will be let out, most property investors arrange an interest only mortgage. For the duration of the mortgage, each monthly payment only covers the interest on the mortgage. The rent collected each month is often used to cover this interest payment. The amount borrowed, called the capital debt, will need to be repaid in full at the end of the mortgage term.
Instead of an interest only mortgage, some property investors opt for a repayment mortgage. This means by the end of the mortgage term the entire loan including interest is paid off in full.
At the end of term, the property could continue to be rented, but the property investor can keep all the rent. Alternatively, the property can be sold, and the investor gets to keep the full sales proceeds (less any taxes).
Repayment mortgages are usually only viable when the expected rental income will be high enough to cover the repayment in full. If the rental income is less than the repayment amount, then it is likely that an interest only mortgage is preferred.
Access our free repayment mortgage calculator.
The term of a Buy to let mortgage is usually 25 years. This means that the mortgage must be repaid in full on or before the loan expiry date (in 25 years time). Depending on your circumstances a shorter or longer term may be available. Many lenders do stipulate an upper age limit - a maximum age of 75 at the end of the mortgage term is a common stipulation.
The upper age limit means for anyone over 50, the investor may have to arrange a shorter mortgage term. Some lenders may be willing to be flexible on this rule if the property investor meets other criteria.
Fixed or Variable Mortgage
Choosing a fixed or variable interest rate is down to risk preferences.
A variable rate mortgage means the amount paid each month could go up or down when interest rates change. The variability in interest rates is a risk for the property investor, as the rental income will be a fixed monthly amount. In the short term, it will be very difficult to increase the rent to compensate for higher interest rates.
When a fixed-rate mortgage is taken out, the interest rate and monthly payments remain the same for an agreed period. It is common for a fixed-rate mortgage to be over 2, 3, or 5 years. At the end of the agreed period, the mortgage switches to the lender's standard rate of interest. At this point, the property investor should assess switching to a new mortgage product with the existing lender or remortgaging with a new lender.
Mortgage Product Fees
Mortgage product fees should always be made clear and transparent by the lender. There are many fees that need to be understood when calculating if the mortgage is competitively priced. The arrangement fee, valuation fee, and booking fees alone can add up to several thousand pounds.
Make sure to check with your lender or broker for full details of all fees.
Buy To Let Mortgage Criteria
To qualify for a BTL mortgage, certain criteria (*) will need to be meet by the property investor:
a cash deposit of between 25% and 40% of the purchase price
annual income of £25,000
the property investor must own their own personal residence
the lenders assessment of their existing assets and liabilities is favourable. By way of example, a large amount of credit card debt may not be looked upon favourably by a lender.
the expected rental income will exceed the interest payments (see below for more on this).
Good credit history
* The lending criteria referred to above will vary amongst the different lenders. Understanding and satisfying these criteria is an important aspect of successfully applying for a BTL mortgage.
The large cash deposit of between 25% and 40% is required to protect the lenders position in the event of default. Defaults can occur, for example, when there have been problems collecting the rent from tenants.
Buy To Let Mortgage Deposit
Like most other mortgage products, a deposit is required when arranging a buy to let mortgage.
How Much Deposit for a Buy To Let?
A key factor for any mortgage application is how much deposit you can pay. Generally, the more deposit you can pay, the better the mortgage deal you can secure. However, a buy to let mortgage also has additional requirements, including the need for a much higher deposit than a standard residential mortgage.
The basic idea is that a higher deposit secures the most favourable BTL mortgage deals. However, securing that large deposit may be challenging for the property investor. Therefore, for most property investors there is a very important trade off between the size of the deposit and the interest rate payable.
Buy To Let Deposit Percentage
Most residential mortgage lenders ask for a deposit of about 10% - sometimes only 5% if using one of the UK Government schemes.
However, no such scheme exists for Buy to let mortgages. On average, you need a deposit of 25% to be accepted. To secure the best mortgage deals, a higher deposit of 40% to 50% would be required.
Minimum Deposit for a Buy To Let?
When arranging a mortgage, the deposit you pay affects the loan to value ratio. The LTV is important as that is how much of the property value you are borrowing. A 30% deposit means you are borrowing 70% of the property value.
Very few buy to let lenders out there accept a deposit of less than 25%. Searching around to find lenders accepting a low deposit may yield some results, but as already mentioned the interest rates are significantly higher.
Early Mortgage Repayment
Paying off a buy to let mortgage early is not always recommended. Sometimes fees could apply depending on your agreement. Here are some common ways to clear your mortgage early, and charges you may encounter.
One way to get the mortgage paid off sooner or to pay less interest over the term is by making monthly overpayments. Even paying as little as £100 a month extra could see a significant reduction in the amount of interest paid over the term.
However, lenders vary in their willingness to allow overpayments to be made. Many lenders refuse outright to accept monthly overpayments, others allow them but only up to a certain amount. Commonly 5-10% extra per year is the amount permitted by most lenders.
If the ability to make monthly overpayments is important to you, then make sure to check the lenders rules before agreeing your buy to let mortgage.
Lump Sum Payment on Mortgage
Making a lump sum or one-off repayment is something that can also be of benefit. If you can pay a significant amount, then you could save thousands in interest, and complete the mortgage earlier than expected.
Most lenders allow lump sum repayments, but the rules are the same as those paying regular overpayments. There are limits to how much you can pay, and there are some lenders that don't allow extra payments at all.
Make sure to check with the lender when discussing the mortgage deal to see what rules they have for anyone wanting to overpay.
Early Repayment Charge
If you overpay your mortgage by more than the permitted amount, or pay your mortgage off early, then you could incur early repayment charges.
Early repayment charges are usually calculated as a percentage of the remaining amount owed. Percentage rates are usually between 1-5% which may not seem like much, but if your outstanding balance is high, it could be a significant amount.
For example, you still have £100,000 left on the mortgage, the early repayment charge would be between £1,000 and £5,000.
Buy To Let Mortgage vs Residential Mortgage
Whilst there are many similarities with residential mortgages, buy to let mortgages have some specific characteristics which should be understood.
When arranging a buy to let mortgage a significantly larger deposit (circa 25% of purchase price) will be required as compared to residential mortgage.
The interest rates and upfront fees are likely to be higher than a residential mortgage.
Residential mortgages are specifically for properties that are occupied by the homeowner. Buy to let mortgages allow the owner to let the property to tenants. Landlords may not let out a property purchased using a residential mortgage as it is not permitted by the lender.
When assessing the buy to let mortgage application, the lender will assess the rental potential of the property. This will be a key factor in determining how much can be borrowed. This is profoundly different to a residential mortgage application.
A residential mortgage may be converted into a buy to let mortgage if the lender provides a consent to let. There is no obligation on the mortgage lender to give their consent.
Non-Standard Buy To Let Mortgages
What is an HMO?
As a landlord, you've probably come across the phrase Houses in Multiple Occupation (HMO). If so, you've perhaps been wondering; what does HMO entail and how does it work?
From a commercial perspective, the tenant agrees to rent a single bedroom and use shared facilities such as a kitchen and bathroom.
To have a better understanding of HMO mortgages, it's appropriate to define what an HMO is from a legal perspective. As we've just mentioned, HMO stands for Houses in Multiple Occupation. A property is generally classified as an HMO if it has at least 3 unrelated (i.e. they're not a family or relatives) living there but sharing certain facilities such as the kitchen, living room, toilet, and bathroom.
In most cases, HMO tenants will usually be students, single people, graduates, young professionals, or people working away for a long period. This will be for people looking for a more affordable housing option than renting an entire property.
What is an HMO Mortgage?
An HMO mortgage is a loan that is specially designed for HMO properties. Unlike the terms and conditions of normal buy to let mortgages that do not allow the property to be let to multiple tenants, an HMO mortgage is designed to allow multiple tenancies. Most HMO mortgages are restricted to experienced landlords. HMO mortgages tend to be more expensive than regular buy to let mortgages.
So if you choose to let your property as an HMO, then it would be highly advisable to go for an HMO mortgage and not a normal buy to let mortgage. The idea here is that you could be in for severe repercussions if you have the normal buy to let mortgage but turn the property into an HMO.
How Do HMO Mortgages Work?
Although the principles of HMO mortgage are almost the same as the normal buy to let mortgage, the detailed terms and conditions may vary from lender to lender. The main differences will be in the following areas:
Licensing - Some lenders may require proof that the HMO property is licensed by the relevant local authority. This is in line with the fact that the housing acts stipulate that certain HMOs, especially larger properties (i.e. at least three storeys) with multiple tenants, be licensed by the local authority.
Landlord experience - Many lenders will likely not consider first-time landlords or buyers for HMO mortgages. The idea here is that you must have at least one year of experience as an HMO landlord or 2 years of experience as a normal buy to let landlord.
Loan To Value (LTV) - The maximum LTV is 75% but some UK lenders have started considering more.
Property Value - the value of the HMO property should be at least £100,000 in most areas within the UK but may be higher in London.
Loan Size - The size of loan that you can be given will depend on the number of occupants or tenants. For example, a six-tenant property may have a high loan size than a three-tenant property.
To help reduce the timelines to completing, savvy property investors should consider applying for a HMO mortgage in principle.
HMO Mortgages For First-time Landlords
Unfortunately, the chances of getting an HMO mortgage as a first-time landlord are very limited. Most HMO lenders will only consider offering HMO mortgages to individuals with at least one year of experience as an HMO landlord or at least 2 years of experience as a standard buy-to-let landlord.
If you would like to know more about HMO mortgages, please follow this link.
Bridging loans can be a fantastic way of borrowing large amounts of money quickly to enable you to complete a property purchase.
What Is A Bridging Loan?
A bridging loan is a short term loan. The term “bridging loan” was coined as the loan bridges the gap until a long-term financing solution is implemented. Whilst more expensive than traditional buy to let mortgages, bridging loans offer greater flexibility and can potentially finance tricky transactions.
For example, a property investor may use a bridging loan when buying an uninhabitable property requiring major refurbishment. The investor buys the property and refurbishes it. After the property refurbishment has been completed, the investor will apply for a traditional buy to let mortgage. The bridging loan is then repaid using the new buy to let mortgage.
Another example is where a property developer uses a bridging loan to buy a property at auction. They buy the property, develop it, and eventually sell it on for a profit. The bridging loan is then repaid from the sales proceeds.
Why Use A Bridging Loan?
Below are some real world examples when a bridging loan can be used to build wealth
Some investment properties may not qualify for a traditional buy to let mortgage. For example, an uninhabitable property is unlikely to qualify for buy to let mortgage. However, that property may well be accepted for bridging finance.
If someone needs to buy at auction and doesn't have time to arrange a buy to let mortgage, a bridging loan is a good solution.
The purchase of a property for the purposes of renovation and quick sale is unlikely to qualify for a buy to let mortgage. Again, such a transaction may well be accepted for bridging finance.
What Can Bridging Finance Be Used For?
Bridging finance can be used in many situations including:
• Purchase of an auction property
• Funding lucrative buy to sell opportunities
• Refurbishment of unmortgageable properties
How Does A Bridging Loan Work?
Open and Closed Bridged Loans
There are two types of bridging loan - open or closed.
An open bridge loan has no set repayment date. Often these are used when the plan is to sell the property to settle the loan. Open bridge loans may be used by house buyers that haven't sold their current property, or investors that want to buy, renovate, and then sell.
A closed bridge loan means there is a set date to repay the loan. Borrowers may use this option when they know funds are going to be available for repayment of the loan before the end of the term. This is a popular option when contracts have been exchanged, but they must wait until the completion date to repay the bridge loan.
First Charge and Second Charge
When applying for bridging finance, the lender will add a legal charge to the property used as security. These charges determine the prioritisation of the lenders claims if the loan can't be repaid. For example, when a property is repossessed and sold to cover outstanding loans, a first charge loan is paid back first, then the second charge loan.
First charge loans: this is when the bridge loan is the only or first borrowing secured against the property. A mortgage is normally a first charge loan, but if there is no mortgage or other borrowing secured against the property, then a bridge loan can be the first charge loan.
Second charge loans: if there is already a mortgage or loan against the property, then a second charge loan is needed. Permission from the first charge lender is usually sought before a second charge loan can be added.
Bridge Loan vs Buy To Let Mortgage
Bridge finance may be needed initially for a buy to let property if funding for renovations or other works are required. When starting a new project, property investors and property developers can use this option as it is a convenient and fast way to get funding.
Buy to let mortgages can take weeks or months to finalise (particularly for tricky property transactions), but a bridge loan can be agreed in days. This makes bridging finance a great choice when time is of the essence.
Once the property is ready to be let, then the loan finance can be moved from the short term bridging finance onto a long term, buy to let mortgage.
Are you interested in finding out more about bridging finance? If so, please click here.