Buy to let
Encyclopedia
Buy-to-let is a British phrase referring to the purchase of a property specifically to let out. A buy to let mortgage
is a mortgage specifically designed for this purpose.
For many years landlord
s have invested in residential property to be let for profit, but arranging a mortgage loan to buy such property had always been hard as tenants were hard to evict and rent levels were relatively low. Since the introduction of the Assured Shorthold Tenancy
in the mid-nineties however the rights of tenants and landlords have been more evenly balanced and mortgage lenders have been more willing to provide finance. This led to a rapid expansion in the amount of mortgage finance available with schemes specifically designed for amateur and professional landlords that became known as buy to let mortgages. The recent credit crunch
, however, has caused most UK lenders to cease offering these kinds of mortgage.
have made buy-to-let a popular way to invest. The main risk involves leveraged speculation where the landlord takes a loan to buy the property, with the expectation that the house can be sold later for a higher price, or that rental income will meet or exceed the cost of the loan. In the best outcome for the landlord, he will have benefitted from the use of the lending banks money indicating that he has allocated the capital more efficiently than professional investors could have done. If the landlord cannot meet the conditions of their mortgage repayments then the bank will seek to take possession of the property and sell it to gain the loaned money. The broad popularity of buy-to-let investments has made a large number of new landlords and is a component of a risk that forms a systemic threat to the banking system in the UK.
On average, English buy-to-let yields (the difference between the rent the landlord receives and the costs of ownership) were just under 5.5% in Q3 2007. This had fallen from over 7% in Q2 2002.
Gross rental yields in the world's premier cities range between 1.6% (in Taipei) and 11.7% (in Moldova's Chisinau). Gross rental yields on residential property have trended down globally for several years, and have generally continued to fall since the housing crisis.
is a mortgage arrangement in which an investor borrows money to purchase property
in the private rented sector
in order to let it out to tenants. Buy-to-let mortgages have been on offer in the UK
since the late 1990s.
Lenders calculate how much they are willing to lend using a different formula than for an owner-occupied property. For an owner-occupied property, the calculation is typically a multiple of the owner's annual income.
The interest rates and fees that are offered on BTL mortgages are, on average, slightly higher than those for an owner-occupied mortgage. This is due to the perception amongst banks and other lending institutions that BTL mortgages represent a greater risk than residential owner-occupier mortgages.
This type of investment has become very popular in the UK over the last five years or so, as house prices have dramatically increased. Another reason for their popularity is the tax advantages that are available to UK BTL investors. Rental income is considered in the same way as salary, therefore tax is generally assessed at 22% or 40%. However, landlords can deduct costs from the taxable portion of their rental income, and these costs can include the interest portion of their BTL mortgage repayments as well as maintenance costs on the property. These income tax incentives have made BTL investments more popular over the last few years.
Recent credit problems have had some investors maintaining the same percentage of equity in the property should prices fall and so rapidly find money to cover these downturns.
started a trend of harassing existing tenants (who had security of tenure and rent controls) until they left, then packing in new tenants who had fewer restrictions and no cap on rent charged. Parliament finally acted in 1977 with the introduction of the Protection from Eviction Act, and more comprehensively through the Rent Act 1977
, which although preventing unlawful eviction and creating security of tenure, meant that renting out property was often loss making for landlords. In consequence, the private rental sector declined yet growth in social housing did not increase to compensate. A housing shortage then ensued and to create a more open structure the 1988 Housing Act was enacted. It was a milestone piece of legislation which created the concept of the Assured Shorthold Tenancy
whereby there was less security of tenure for tenants. Landlords gained the power to evict problem tenants more easily, and so the prospect of becoming a landlord was more attractive than previously. The housing crash between 1989 and 1994 saw an increase in the number of tenants, as people lost their homes and were repossessed which coincided with a significant growth of the new Buy-to-Let landlord.
Buy-to-let as a term was coined in 1995 as a marketing badge for a finance initiative launched by the Association of Residential Letting Agents
(ARLA), although this type of lending had existed for many years.
The Council of Mortgage Lenders
(CML) started collecting statistics on buy-to-let in 1997 and some observers have interpreted the growth in buy-to-let lending, as reported by the CML, as evidence of a boom. However the CML only measures the growth of the new specialist lenders in the market - such as Paragon Mortgages, Mortgage Express and BM Solutions, whilst omitting the core back book of loans to residential property investors by mainstream lenders.
The apparent growth in buy-to-let lending is attributable to the success of specialist lenders in taking market share by offering bespoke products and services and attractive pricing. In fact, as much as 40% of activity is remortgaging as established landlords switch from more expensive commercial mortgage
s.
Despite the growth of the buy-to-let market since its inception, the private rented sector remains predominantly undergeared, with only 19% of the 2.7m properties mortgaged. Not only does this put buy-to-let growth into context, it also shows the growth potential remaining in the sector.
The Association of Residential Letting Agents
conducts a quarterly survey of residential landlords to gauge their views on the market. In the 2005 3rd Quarter survey (September 2005), respondents showed resounding commitment to their buy-to-let investments. Of the landlords surveyed, 90% said that they would hold on to their investments even if house prices fell, 62% said that the average life expectancy of their property investments is ten years or more and 58% said that they intend to acquire further buy-to-let investments in the near term. The overall average life of their property investments was 16 years.
Buy to let mortgage products grew in popularity in the years following the millennium, and by 2007 the market was filled with wholesale lenders. Some of the largest banks in the world began wholesale lending, including the Royal Bank of Scotland and HBOS. Capital was raised through the practice of repackaging mortgage securities and selling them to another lender at a higher price. These securities were ultimately worthless, and this contributed heavily to the downfall of a number of buy to let lenders in 2008 and 2009. Due to the low prices of buy to let loans being lent by these wholesale lenders, it became even cheaper to buy to let than to have a residential mortgage. The standard package tended to be allowing a mortgage of 85% of value, with rental cover at 125% (i.e Mortgage payments £5,000 pa would require rental receipts of £6,250).
The market peaked in 2008, before collapsing not long after. The market dropped dramatically, moving from $27.2 billion worth of lending in 2008, to just £8.5 billion in 2009 as lenders removed available products by the week, and with new products having a maximum loan to value of 70%. To add even more to the problem of gaining finance, valuers were becoming extremely cautious, with mortgage valuations often significantly less than the purchase price agreed. By the end of this period, the market had halved in value. The dramatic rises that the market saw in the first decade of the 21st century were wiped out within a matter of weeks. New government regulation has been announced in order to improve protection to consumers. This regulation will ensure that lending does not reach the low prices and unsustainable levels of 2007.
(AST) agreement.
AST gives both the landlord and the tenant assurance of the tenancy and specifies the term the property is to be let and specifies notice period for both parties.
They have been attracted by rental incomes, rising capital values and a perception that the risk in housing is lower than for equity based investment. More recently, investors have seen buy-to-let as an alternative to their pensions, especially in light of the negative publicity pensions have received. However, the sector is still dominated by professionals.
The Office of the Deputy Prime Minister's (ODPM) Private Landlords Survey, which appears in their English House Condition Survey, is the most comprehensive study of the private rental market. The survey is published every four years and the last three editions illustrate the changing structure of private rented sector ownership.
The ODPM survey does suggest that there has been significant growth in the number of small scale landlords owning up to four properties. However, further analysis of this data reveals that the private rented sector is still dominated by professional landlords with large portfolios of property.
Analysis undertaken by Capital Economics found that although 53% of landlords own less than five properties, this represents less than 3% of the dwelling stock. Further, at the other end of the scale, 13% of landlords own 74% of the stock.
Mortgage loan
A mortgage loan is a loan secured by real property through the use of a mortgage note which evidences the existence of the loan and the encumbrance of that realty through the granting of a mortgage which secures the loan...
is a mortgage specifically designed for this purpose.
For many years landlord
Landlord
A landlord is the owner of a house, apartment, condominium, or real estate which is rented or leased to an individual or business, who is called a tenant . When a juristic person is in this position, the term landlord is used. Other terms include lessor and owner...
s have invested in residential property to be let for profit, but arranging a mortgage loan to buy such property had always been hard as tenants were hard to evict and rent levels were relatively low. Since the introduction of the Assured Shorthold Tenancy
Assured shorthold tenancy
The Assured Shorthold Tenancy is the default tenancy for most dwellings in England and Wales. It is a form of Assured tenancy with limited security of tenure, which was introduced by the Housing Act 1988, with important changes made by the Housing Act 1996....
in the mid-nineties however the rights of tenants and landlords have been more evenly balanced and mortgage lenders have been more willing to provide finance. This led to a rapid expansion in the amount of mortgage finance available with schemes specifically designed for amateur and professional landlords that became known as buy to let mortgages. The recent credit crunch
Credit crunch
A credit crunch is a reduction in the general availability of loans or a sudden tightening of the conditions required to obtain a loan from the banks. A credit crunch generally involves a reduction in the availability of credit independent of a rise in official interest rates...
, however, has caused most UK lenders to cease offering these kinds of mortgage.
Benefits and risk
As for all property rental, the benefits for a buy-to-let landlord can include a stable income from rental receipts, as well as an accumulation of wealth if house prices go up over time. Rising house prices in the UKhave made buy-to-let a popular way to invest. The main risk involves leveraged speculation where the landlord takes a loan to buy the property, with the expectation that the house can be sold later for a higher price, or that rental income will meet or exceed the cost of the loan. In the best outcome for the landlord, he will have benefitted from the use of the lending banks money indicating that he has allocated the capital more efficiently than professional investors could have done. If the landlord cannot meet the conditions of their mortgage repayments then the bank will seek to take possession of the property and sell it to gain the loaned money. The broad popularity of buy-to-let investments has made a large number of new landlords and is a component of a risk that forms a systemic threat to the banking system in the UK.
Yields
Recent research by BDRC for Alliance & Leicester showed that 71% make a profit, but 22% break even or make a loss.On average, English buy-to-let yields (the difference between the rent the landlord receives and the costs of ownership) were just under 5.5% in Q3 2007. This had fallen from over 7% in Q2 2002.
Gross rental yields in the world's premier cities range between 1.6% (in Taipei) and 11.7% (in Moldova's Chisinau). Gross rental yields on residential property have trended down globally for several years, and have generally continued to fall since the housing crisis.
Buy-to-let mortgages
Buy-to-let mortgageMortgage loan
A mortgage loan is a loan secured by real property through the use of a mortgage note which evidences the existence of the loan and the encumbrance of that realty through the granting of a mortgage which secures the loan...
is a mortgage arrangement in which an investor borrows money to purchase property
Real property
In English Common Law, real property, real estate, realty, or immovable property is any subset of land that has been legally defined and the improvements to it made by human efforts: any buildings, machinery, wells, dams, ponds, mines, canals, roads, various property rights, and so forth...
in the private rented sector
Private rented sector
The Private Rented Sector is a classification of UK housing tenure as described by the Department for Communities and Local Government, a UK government department that has amongst its remit the monitoring of the UK housing stock.Other classifications are:...
in order to let it out to tenants. Buy-to-let mortgages have been on offer in the UK
United Kingdom
The United Kingdom of Great Britain and Northern IrelandIn the United Kingdom and Dependencies, other languages have been officially recognised as legitimate autochthonous languages under the European Charter for Regional or Minority Languages...
since the late 1990s.
Lenders calculate how much they are willing to lend using a different formula than for an owner-occupied property. For an owner-occupied property, the calculation is typically a multiple of the owner's annual income.
The interest rates and fees that are offered on BTL mortgages are, on average, slightly higher than those for an owner-occupied mortgage. This is due to the perception amongst banks and other lending institutions that BTL mortgages represent a greater risk than residential owner-occupier mortgages.
This type of investment has become very popular in the UK over the last five years or so, as house prices have dramatically increased. Another reason for their popularity is the tax advantages that are available to UK BTL investors. Rental income is considered in the same way as salary, therefore tax is generally assessed at 22% or 40%. However, landlords can deduct costs from the taxable portion of their rental income, and these costs can include the interest portion of their BTL mortgage repayments as well as maintenance costs on the property. These income tax incentives have made BTL investments more popular over the last few years.
Recent credit problems have had some investors maintaining the same percentage of equity in the property should prices fall and so rapidly find money to cover these downturns.
History
The infamous landlord Peter RachmanPeter Rachman
Peter Rachman was a London landlord in the Notting Hill area in the 1950s and 1960s. He became so notorious for his exploitation of tenants that the word "Rachmanism" entered the OED as a synonym for any greedy, unscrupulous landlord.-Career:Rachman was born Perec Rachman in Lvov, Poland in 1919,...
started a trend of harassing existing tenants (who had security of tenure and rent controls) until they left, then packing in new tenants who had fewer restrictions and no cap on rent charged. Parliament finally acted in 1977 with the introduction of the Protection from Eviction Act, and more comprehensively through the Rent Act 1977
Rent Act 1977
The Rent Act 1977 was an Act of Parliament passed in the United Kingdom. The Act introduced the protected tenancy, a type of lease....
, which although preventing unlawful eviction and creating security of tenure, meant that renting out property was often loss making for landlords. In consequence, the private rental sector declined yet growth in social housing did not increase to compensate. A housing shortage then ensued and to create a more open structure the 1988 Housing Act was enacted. It was a milestone piece of legislation which created the concept of the Assured Shorthold Tenancy
Assured shorthold tenancy
The Assured Shorthold Tenancy is the default tenancy for most dwellings in England and Wales. It is a form of Assured tenancy with limited security of tenure, which was introduced by the Housing Act 1988, with important changes made by the Housing Act 1996....
whereby there was less security of tenure for tenants. Landlords gained the power to evict problem tenants more easily, and so the prospect of becoming a landlord was more attractive than previously. The housing crash between 1989 and 1994 saw an increase in the number of tenants, as people lost their homes and were repossessed which coincided with a significant growth of the new Buy-to-Let landlord.
Buy-to-let as a term was coined in 1995 as a marketing badge for a finance initiative launched by the Association of Residential Letting Agents
Association of Residential Letting Agents
The Association of Residential Letting Agents is a professional organisation for residential lettings companies in the United Kingdom.ARLA was formed in 1981 and has grown as the residential lettings market in the UK has expanded through the popularity of Buy to let investment...
(ARLA), although this type of lending had existed for many years.
The Council of Mortgage Lenders
Council of Mortgage Lenders
The Council of Mortgage Lenders is an industry body representing mortgage lenders in the United Kingdom.Its members consist of banks, building societies and specialist lenders and represent 98% of mortgage lending in the UK....
(CML) started collecting statistics on buy-to-let in 1997 and some observers have interpreted the growth in buy-to-let lending, as reported by the CML, as evidence of a boom. However the CML only measures the growth of the new specialist lenders in the market - such as Paragon Mortgages, Mortgage Express and BM Solutions, whilst omitting the core back book of loans to residential property investors by mainstream lenders.
The apparent growth in buy-to-let lending is attributable to the success of specialist lenders in taking market share by offering bespoke products and services and attractive pricing. In fact, as much as 40% of activity is remortgaging as established landlords switch from more expensive commercial mortgage
Commercial mortgage
A commercial mortgage is a mortgage loan made using commercial real estate as collateral to secure repayment.A commercial mortgage is similar to a residential mortgage, except the collateral is a commercial building or other business real estate, not residential property. In addition, commercial...
s.
Despite the growth of the buy-to-let market since its inception, the private rented sector remains predominantly undergeared, with only 19% of the 2.7m properties mortgaged. Not only does this put buy-to-let growth into context, it also shows the growth potential remaining in the sector.
The Association of Residential Letting Agents
Association of Residential Letting Agents
The Association of Residential Letting Agents is a professional organisation for residential lettings companies in the United Kingdom.ARLA was formed in 1981 and has grown as the residential lettings market in the UK has expanded through the popularity of Buy to let investment...
conducts a quarterly survey of residential landlords to gauge their views on the market. In the 2005 3rd Quarter survey (September 2005), respondents showed resounding commitment to their buy-to-let investments. Of the landlords surveyed, 90% said that they would hold on to their investments even if house prices fell, 62% said that the average life expectancy of their property investments is ten years or more and 58% said that they intend to acquire further buy-to-let investments in the near term. The overall average life of their property investments was 16 years.
Buy to let mortgage products grew in popularity in the years following the millennium, and by 2007 the market was filled with wholesale lenders. Some of the largest banks in the world began wholesale lending, including the Royal Bank of Scotland and HBOS. Capital was raised through the practice of repackaging mortgage securities and selling them to another lender at a higher price. These securities were ultimately worthless, and this contributed heavily to the downfall of a number of buy to let lenders in 2008 and 2009. Due to the low prices of buy to let loans being lent by these wholesale lenders, it became even cheaper to buy to let than to have a residential mortgage. The standard package tended to be allowing a mortgage of 85% of value, with rental cover at 125% (i.e Mortgage payments £5,000 pa would require rental receipts of £6,250).
The market peaked in 2008, before collapsing not long after. The market dropped dramatically, moving from $27.2 billion worth of lending in 2008, to just £8.5 billion in 2009 as lenders removed available products by the week, and with new products having a maximum loan to value of 70%. To add even more to the problem of gaining finance, valuers were becoming extremely cautious, with mortgage valuations often significantly less than the purchase price agreed. By the end of this period, the market had halved in value. The dramatic rises that the market saw in the first decade of the 21st century were wiped out within a matter of weeks. New government regulation has been announced in order to improve protection to consumers. This regulation will ensure that lending does not reach the low prices and unsustainable levels of 2007.
Assured shorthold tenancy
One of the key innovations required for widespread property investment was the reform of tenancy agreements and specifically the introduction of the assured shorthold tenancyAssured shorthold tenancy
The Assured Shorthold Tenancy is the default tenancy for most dwellings in England and Wales. It is a form of Assured tenancy with limited security of tenure, which was introduced by the Housing Act 1988, with important changes made by the Housing Act 1996....
(AST) agreement.
AST gives both the landlord and the tenant assurance of the tenancy and specifies the term the property is to be let and specifies notice period for both parties.
Experienced investors and amateurs
The new landlord friendly legislation afforded by the 1988 Housing Act, coupled with the introduction of competitive mortgage products, brought new investors into the property market.They have been attracted by rental incomes, rising capital values and a perception that the risk in housing is lower than for equity based investment. More recently, investors have seen buy-to-let as an alternative to their pensions, especially in light of the negative publicity pensions have received. However, the sector is still dominated by professionals.
The Office of the Deputy Prime Minister's (ODPM) Private Landlords Survey, which appears in their English House Condition Survey, is the most comprehensive study of the private rental market. The survey is published every four years and the last three editions illustrate the changing structure of private rented sector ownership.
The ODPM survey does suggest that there has been significant growth in the number of small scale landlords owning up to four properties. However, further analysis of this data reveals that the private rented sector is still dominated by professional landlords with large portfolios of property.
Analysis undertaken by Capital Economics found that although 53% of landlords own less than five properties, this represents less than 3% of the dwelling stock. Further, at the other end of the scale, 13% of landlords own 74% of the stock.
Buy to Let and negative publicity
Buy to Let has experienced much poor press over the past few years, with many commentators believing that it has contributed to rampant house price inflation. Such is the popularity of Buy to Let that estimates have recently put one in three new properties in London being bought by investors. Oxford Economics stated in August 2007 that buy to let is "undoubtably contributing to the overvaluation of housing".See also
- Mortgage loanMortgage loanA mortgage loan is a loan secured by real property through the use of a mortgage note which evidences the existence of the loan and the encumbrance of that realty through the granting of a mortgage which secures the loan...
s - RemortgageRemortgageA remortgage is the process of paying off one mortgage with the proceeds from a new mortgage using the same property as security. The term is mainly used commercially in the angla saxon countries such as the United Kingdom and the United States , though what it describes is not unique to any one...
- Investing
- Irish Property BubbleIrish property bubbleThe property bubble in the Republic of Ireland began in 2000 and peaked in 2006, as with many other western European countries, with a combination of increased speculative construction and rapidly rising prices....
- British property bubble
- Greater fool theory
External links
- Council of Mortgage Lenders - The association that represents nearly all UK mortgage lenders.
- Association of Residential Letting Agents - The organisation that promotes buy-to-let properties on behalf of landlords.