Why purchase a buy to let property?

For some people the concerns over future stock market performance and current low savings rates means purchasing a buy to let property is a good investment option. There is a strong demand for rental properties in certain parts of the UK and this has made being a landlord an appealing investment for both income and long-term growth.

What is the difference between a Buy to Let & a Residential mortgage?

The amount you can borrow on a residential mortgage is predominately based on your income and outgoings. With a Buy to Let mortgage the amount available to borrow will be based predominately on the rental income the property can achieve.

• The minimum deposit on a Buy to Let is currently 20%, however there are only a small number of lenders that allow this. The majority of the market require a 25% deposit and the rates are more competitive than a 20% deposit mortgage.
• Interest rates on Buy to Let mortgage rates tend to be a little more expensive than residential loans as they present a greater risk to the lender, however the market is becoming more competitive for both purchases and remortgages.
• You have an option to have your Buy to Let on either a capital repayment or interest only basis. Many landlords arrange the mortgage on an interest only basis to ensure monthly payments are kept to a minimum and re-invest the profit into further properties in the future. The mortgage balance will need to be repaid by another method such as sale of the property at the end of the term.

How does a lender calculate what they will lend?

A mortgage lender will arrange for a valuation of the property to be undertaken as part of the application. As well as providing a figure for the valuation of the property, they will also give you an estimate of the property's potential rental income. This figure will be then be used to decide what you can borrow. Every lender will calculate this amount differently and this means the amount available to borrow will vary from lender to lender. A typically lender calculation would be to calculate what interest would be payable on a mortgage at 5.5% to allow for rate rises in the future, and then use 145% of this figure to allow for costs of upkeeping the property, tax and periods when the property may be empty. This would then be the required rental income for the year.

As an example:

£300,000 mortgage x 5.5% stress rate x 145% = £23,925 required rental income for the year (£1,994 per calendar month)

What should I do if the rental income does not meet the lender's criteria?

One recent innovation in the Buy to Let mortgage market has been the introduction of “top slicing” personal income. This is where the lender will calculate what disposable income you have available as part of the application to help cover the rental income calculations. In the example above if the property was only deemed to have rental income potential of £1,500 per month but you had £500 disposable income available a lender may be willing to take this into account and you can then still achieve the mortgage required.

Some lenders might use a different stress rate to calculate the rental income. If you decide to fix for 5 years, this can potentially increase the amount of borrowing available.

Should I purchase a buy to let in a Ltd company?

A large majority of new buy to let purchases are being purchased in a Ltd company. There are pros and cons of doing this and it is not always the right solution. Our adviser can help you work through the advantages and disadvantages of this structure and if necessary involve an accountant from Bennison Brown Accountants to clearly explain the tax implications. This will help you determine whether a Ltd company purchase is the most efficient structure for your circumstances.

What other potential costs will I incur?

There are a number of costs to consider when purchasing a Buy to Let property such as any maintenance the property may need or periods when the property is not rented out. There are also a number of taxes to be aware of:

Stamp Duty

• As with any property purchase Stamp Duty may be payable depending on the value of the purchase. If you are a first time buyer there is no First Time Buyer Stamp Duty Relief on a Buy to Let. If you already own another property in your own name an additional 3% surcharge will be payable.

Income tax

• You will be required to declare your total rental income alongside any other income on a self assessment tax return each year. The rate of income tax payable will be based on the total income you receive. You will have the opportunity to disclose costs relating to your Buy to Let property such as mortgage interest, letting agency fees and legal bills, which you can deduct from your income. Maintenance costs may also be allowable – but for repairs rather than improvements. The amount of mortgage interest you can offset is changing over the coming years and by 2020 you will receive a 20% tax credit for your mortgage interest This means you can cut your final tax bill by 20% of your interest.

Capital gains tax

• While any profit on the sale of your main residential home is tax-free, there may be capital gains tax to pay on profits from the sale of a Buy to Let property. Capital gains tax is currently payable at either 18 per cent or 28 per cent, depending on your total taxable income, but everyone is allowed a certain amount of gains each year before tax becomes payable. The capital gains tax allowance in the 2018-19 tax year is £11,700.

Inheritance tax

• Any Buy to Let property you own will count towards the value of your estate for inheritance tax purposes, minus any outstanding mortgage.