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Buy To Let Strategies Explained

Posted by amin on May 28, 2014
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There are many reasons to start building a buy to let portfolio: financial freedom, lifestyle, asset growth, passive income and pension planning to name a few.

In its simplest form a buy to let property will provide a monthly income after cost. As well as capital growth in the asset value over a period of time.

In the following article we will discuss the different types of buy to let strategies to build a structured, recurring passive income from property investment.

Single Let

This is regarded as the most common form of buy to let investment. It’s a pretty simple formula when broken down; make sure that the rental income is greater than the costs. Mitigating against risk can be done in several ways, but make sure that the figures are correct in the first place. Market research is paramount. Areas that are in high demand, have quality transport links, projected urban growth and a strong existing tenant marketplace are a good place to start. Purchasing at the correct level, calculating the predictive yields, assuming void periods, mortgage costs, potential effects of interest rate movement and the cost to repair damages all need to be taken into account to arrive at the all important net yield.

Pros of a Single Let unit:

  • Uncomplicated model and process.
  • There is a wealth of information on how to get started.
  • Tried and tested.
  • Easy to manage.
  • Can be outsourced to a letting agent to become a “Hands off” investment.
  • Predictable returns if the financial modelling has been carried out correctly.
  • Mortgages are relatively easy to acquire, particularly compared to other Buy To Let strategies.

Cons:

  • Legislation can be daunting at first.
  • Returns may not be as high as other types of Buy To Let.
  • Margins are reduced if using a letting agent to manage the property.

HMO (House in Multiple Occupation)

A House in Multiple Occupation or House of Multiple Occupancy as it is also known, refers to a property in which at least three people who are not of the same household (i.e. a family) share the common facilities like the bathroom and kitchen. It is important to note that HMO licensing is only required when renting a Large HMO – a property with more than 5 unrelated tenants.

HMO’s can be a popular rental strategy as renting each individual room often generates more revenue than if a property was let to a single individual or family. Furthermore, reception rooms are often converted to additional bedrooms increasing the number of billable rooms. For example, if we take a three bedroom house with separate dining room and lounge; convert those into additional bedrooms, we end up with a five bedroom property. Let’s say the property’s market value is £1000 per month as a 3 bedroom house to a single family. If each room can be rented for £400 a month, the total achievable rent increases to £2000 a month, double that of the single let.

There are two sides to this coin; investors who purely look at the bottom line figures and the maximum revenue from each property or those investors who take a more nuanced approach and decide that providing communal spaces increases tenant’s enjoyment / experience and therefore lowers void periods and tenant turnover. Neither is necessarily wrong, it is up to you as to which method best fits your long term strategy.

Pros

  • Often higher yields than Single Lets.
  • Multiple Income streams from a single property.

Cons

  • Higher Costs – tend to be let furnished with bills included.
  • More wear and tear.
  • Higher lettings fees or more intensive management if doing it yourself.
  • Stricter regulatory framework.
  • Harder to secure a mortgage.

Student Let

There are two main types of properties within this category. HMO type house shares and purpose built student accommodation.

If we look at the HMO property first. These have more flexibility as they are generally large multi-bedroomed houses that can easily be rented to other classes of renters if required. The exit strategy allows for them to be sold as income producing properties or as family homes, thereby increasing the potential number of purchasers.

With this type of student property, the students will typically sign up on a joint contract for a specified period of time with all being liable for any rents owed or costs incurred.

The second type of student let is the purpose built student accommodation. These are often studios or 1 bedroom properties in a new development close to the University. With high spec finishes, dedicated communal areas, convenient location and specialised facilities they can be more attractive to some students.

Pros

  • A more predictable tenancy term compared to standard HMO’s.
  • Increased revenue compared to Single Let units.
  • Purpose built student accommodation attracts a 0% stamp duty rate.
  • Purpose built properties often provide a 2 or 3 year fixed percentage rental assurance.
  • Very few void periods, assuming the property is an attractive proposition.
  • Rent is sometimes paid up front in one payment.
  • Guarantors required.

Cons

  • Can be greater wear and tear.
  • Properties will need to be furnished and with working appliances
  • Potential for anti-social behaviour.

Housing Benefit Tenants

Put simply, this is rented to tenants who have either all or part of their rent paid for by the local housing authority. As the housing benefit is based on the number of bedrooms and banded by the LHA, it is very easy to calculate how much rent you would receive for your property and whether the LHA allowance will cover all or part of the rent due.

Pros

  • Can be high yielding in certain areas.
  • Predictable rent amount.
  • Often high demand.

Cons

  • Properties tend to be less desirable and suffer from poor capital growth.
  • Irregularity of rent payments.
  • Insurance may be higher or void.
  • Receipt of Housing Benefit for the tenant is not guaranteed.
  • The tenant may encounter a negative life event and withhold rent.

Holiday Lets or Serviced Accommodation

There are a lot of similarities between these two types of Let. The business model is fundamentally the same; target short term rentals to holiday makers or business travellers. It can be extremely profitable or conversely low yielding depending on the occupancy levels. A one bedroom, high specification apartment, near a city’s conference centre might be close to fully booked the whole year round; make a mistake in location and it will be hard to fill the requisite number of weeks to turn a healthy profit or even a profit at all. A cottage overlooking a popular seaside resort or beach could be booked many times over in the peak summer months, yet hardly at all in the colder winter months. The key to success here is to be able to achieve high occupancy levels all year round, whether that is through price sensitivity, marketing strategy or referrals.

Pros

  • Can be extremely profitable if occupancy levels are high.
  • No tenancy agreement so the guest must vacate at the end of their stay.
  • Can be a more beneficial tax regime.

Cons

  • Tax rules can be onerous.
  • Requirements need to be met to qualify for “Furnished Holiday Let” status.
  • Lettings longer than 31 days not permitted unless applying for an AST.
  • Mortgage products are limited.
  • Increased burden of work for cleaning and changeovers.
  • Higher, continuous marketing costs.

Commercial Property

Investments in this sector can be very rewarding, however, the due diligence required not only on property acquisition, but on tenant selection is markedly increased compared to the other options above.

Pros

  • Stamp duty rates are lower and there is no 3% surcharge.
  • Non residential stamp duty rates apply to mixed use buildings where there may be apartments and retail units or offices.
  • Rents are typically paid 3 months in advance as opposed to 1 month for an AST.
  • Even though commercial rates are shorter now than historically, they can be significantly longer than a residential tenancy agreement. Commercial lease terms are normally granted for periods of 2, 3, 5, 7 or 10 year terms as supposed to Assured Short Hold Tenancies of 12 months duration.
  • Due diligence and referencing tends to be more thorough on a commercial tenant.
  • Commercial leases can be assignable minimising void periods.
  • Many commercial properties are let on a fully repairing and insuring lease where the tenant is liable for the cost of repair and maintenance rather than the landlord.

Cons

  • If commercial properties become vacant it can take a long time to install a new tenant.
  • It may be more costly to seek arrears.
  • The agreements are more complex, harder to negotiate and can delay tenancy start dates.
  • Tenants may try to negotiate a rent free period at the start of the agreement.
  • Legal costs can be higher when evicting a non-paying tenant.

Rent to Rent

This is a hotly discussed topic in property investment circles because on the face of it there is an opportunity to achieve an income with minimal capital outlay.

So what is “rent to rent”? You agree to rent a property from a landlord at a fixed price (below market value), you then rent this to tenants at a higher price. The landlord gets paid the agreed figure and the difference is yours. Sounds pretty easy, but there are pitfalls. We’ll get straight to the Pros and Cons!

Pros

  • No Mortgage Requirement.
  • Minimal investment outlay.
  • Fast set up.
  • No Stamp Duty.
  • Recurring monthly income.

Cons

  • No Capital Growth.
  • Very hands on management.
  • No Asset.
  • Exposure to the risks of letting including voids, maintenance and bills.
  • Finding suitable properties / landlords can be challenging.
  • Expenses setting up the property can push back the break even point.

Lease Options

This is a similar model to “rent to rent”, the main difference being that the investor has an option to purchase in the future. More prevalent in a negative market or with hard to sell properties, vendors agree that an investor may assume the responsibility of the property for a fixed term, say five years. The investor will then rent the property and the difference between the monthly payment to the vendor and the agreed rent becomes profit after cost. At any point within those five years the investor may exercise their right to purchase.

Pros

  • Ability to generate an income with the possibility of capital growth.
  • Minimal capital outlay.

Cons

  • Often slim margins.
  • Hard to source deals.
  • The vendor may back out of the purchase agreement leading to increased legal costs.
  • Hands on investment strategy.

Summary

As you can see from the above, there is no “one size fits all” approach to property investment. There are many factors to consider such as geographical location, investable capital, attitude to risk, expectation of income and/or growth and last but not least, the strategy to employ. Some investors may favour one particular strategy over all others and stick with that, whilst others may wish to spread their risk.

Here at Medway International we work tirelessly and hand in hand with our clients to find the right balance and approach for them.

Contact us today to find out how we can help you structure a recurring passive income from property investment.

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