With rents on the increase and house prices, in many areas, still below their previous peaks investing in a buy-to-let is looking more appealing. However, if you are contemplating dipping your toe in the water as a landlord then you need to read my guide to understand the risks and costs involved.
Is buy-to-let a good investment?
Well, it certainly can be, but there are some issues you need to be aware of in this type of investment.
If there is one thing we have learnt in the last couple of years it’s that property prices can go down as well as up. Whilst over the long term property prices have risen, you need to realise that buy-to-let is no ‘get rich quick’ scheme.
At the present time rental yields are high due, partly, to the inability of many first-time buyers to obtain a loan to purchase a property. A sizeable deposit is now required by lenders to secure a mortgage which is beyond the reach of many would be purchasers. This will not always be the case and a time will come where tenants will be thin on the ground resulting in falling rents.
- Cyclical nature of markets
Both property prices and rental yields are cyclical, so you need to view this investment as long term. If you are the type who wants to jump in and out of investment in the pursuit of profit then buy-to-let is probably not for you.
Property is not a liquid asset and trying to offload your investment in times of trouble may result in you making an overall loss.
- Void periods
It is unrealistic to assume that your property will be let out at all times. The rental market is fluid with tenants changing properties quite regularly due to family or work issues, so you will need to finance the property during these periods.
What returns can I expect?
The return on your investment is called the rental yield and is dependent on a number of factors – type of property, location, market conditions and condition of the property.
- Gross yield
The gross yield of a property is the annual rent divided by the purchase price, expressed as a percentage.
- Net yield
The net yield is the annual rent, less costs such as mortgage payments, repair costs, fees and void periods, divided by the purchase, price expressed as percentage.
Gross rentals yields in the UK are running at around 7.5% (2011) but the net yield can be a lot less if your costs are high or you experience long void periods.
Cheaper properties will provide a better annual yield and I recommend that you look for a rental yield in the region of 130-150% of your mortgage payments.
What are the costs involved?
- Initial costs
Substantial resources are required to purchase an investment property. Firstly a lender will require you to fund a deposit of 25% or more before they will consider your loan application. In addition there are the usual costs involved in a property purchase - survey fee, stamp duty, legal costs, mortgage admin fee & insurance.
- Letting costs
Once you have purchased your property there are further costs involved before you earn any return on your investment.
You will need to clean the property and carry out any repairs, purchase furniture, appliances and equipment your tenant will expect. In addition you will to pay for a Gas and Safety report to comply with legislation.
If you are letting privately then there will be advertising costs, or instead you can pay the fees for a letting agent to find a tenant. There are also fees involved in carrying out an inventory, drawing up a tenancy agreement and obtaining references.
- Running costs
Some properties cost more than others to maintain depending on the age, condition and other responsibilities such as lifts in blocks of flats.
The single biggest cost is likely to be your mortgage repayments. At present mortgage rates are low, but this won’t last forever so you need to make allowances for a significant rises over the coming years.
You will also need to insure the property and its content, plus it is wise to consider public liability insurance and rental insurance.
If the property is leasehold you will also have to pay an annual ground rent and service charge.
As you can see , being a landlord is not an easy or cheap venture. There are considerable costs involved and a sizeable degree of risk involved. But if you do your homework, and are in it for the long haul, then it could form a profitable part of your investment portfolio. Good luck!