This week I would like to share an example of how a high-end finish really works with a smaller HMO in terms of rental and return on investment.  It is of course vital to choose your property wisely and to think about your overall cost and the cost of the borrowing involved.

What was the deal?

This client spent a total of £225,000. £100,000 on the purchase and the rest on the associated costs, refurbishment and finance.

The new value, on a hybrid valuation was £240,000 – a fantastic result. With a small (4-6) bedroom HMO valuation, we would look for an uplift on the bricks and mortar so anything more than the total spend is a good result for our clients.

How did the finance work?

We were able to use Shawbrook for the short-term loan to purchase the property and then to refinance, so the client only had one arrangement fee to pay and minimal legals on the move from short term to term.  Importantly, we do have another valuation completed as this provides an accurate figure reflecting the work the client has put in.  This is particularly important where we have such a high end finish.

Generally, we are able to lend 75% to purchase the property.  There are some circumstances where we can lend 85%, but this is case by case and only for light refreshments where you have experience.  The bridging finance allows the client to carry out the refurbishment works and bring the property up to a licensable standard.  As soon as these works are completed then we can move to the term mortgage and this process takes about 4 weeks.  we can generally lend 75% of the new value at this point,

How does it look as a long-term investment?

As you can see from the figures, funds were left in the deal but the client used a private investor for this part of the deposit so the client himself has not left any money in.  The lenders we work with are happy with this set up as long as there is a loan agreement in place and no charges on the property.  The client is cash flowing over £1000 per month net of the private loan payments.

The client has completed a full refurbishment to the property to mitigate against as much as possible with ongoing costs.  He sourced high quality products to furnish the house in order to avoid replacing items frequently.  By using high-end products he is able to command a market leading rent, as well as attract tenants that want a longer term tenancy.  HMOs traditionally attract people wanting a stop gap, but providing high quality accommodation with good communal areas and bedrooms that work for storage will mean happier tenants who stay for longer!

   

In summary, it is so important to look at your property as not only a return on investment and yield basis, but also as a home for your tenants.  They are your customers after all!  Also, by spending that little bit more now you are likely to have less return visits and issues to have to sort out, meaning you have more time to spend on your next project.

We are having a busy August; it certainly hasn’t slowed down for the summer at Baya!  The investment market continues to be buoyant, and with fixed rates still so low, there is profit to be made, as well as a good cash flow.

I have been thinking about why it is so busy now, and these are some of the influencing factors in my option.

The Changing Culture Towards Renting

We are seeing a changing culture towards wanting or needing to rent rather than buy.  The culture in the UK is changing.  People need to live in areas that they cannot necessarily afford to buy in, nor buy the property they want to live in.  This has opened up a new market for high-end rental properties, particularly within the HMO sector.  Tenants are looking for a good quality rental property, somewhere where they can entertain and enjoy living, but also offers good value for money.  Shared properties offer the advantage of a larger property with a good living space, but a more affordable option than a lower quality studio or small property.

Expanding Lender Market

Competition within the mortgage market is leading to more options for different rental types.  Buy to let mortgage providers used to be few and far between, and over the last few years we are seeing this expand particularly in the more specialist areas.  This allows landlords to be more open to alternatives to a standard AST.  From Air B&B type lettings, all the way through to long term corporate lets, lenders are starting to understand the advantages of alternative rent options.  This is opening up options for property owners, whether that be with a holiday let or a low maintenance long-term contract

Improving Standards Within the Market

With the Section 24 changes, many landlords are choosing this time to move away from the rental market.  They may be approaching retirement, or just not making any mone.  The rental sector has changed beyond recognition in the last 10 years, and where property owners could get away with low quality properties with very little maintenance in the past, the new EPC rules and mandatory licencing is forcing proprietors to take more care over their portfolio. A growing number of rental properties are pushing up supply and forcing a higher standard too.  This is a great opportunity to buy property that is already licenced and tenanted.  We have options to purchase property with reasonably priced bridging loans in order to bring the standard up and increase the rental potential.

Creating Your Own Brand

In a world where social media is so prevalent, there are so many opportunities to create your USP and brand.  Instagram and Facebook are a fantastic platform to display what you are capable of, as well as networking to see what your competitors are achieving.  It is a great way of meeting potential investors too, allowing you to grow your portfolio quicker (obviously, you need to do your due diligence before doing business with anyone!).  The world of property is becoming more professional and landlords who are embracing this will be in a much stronger position in an uncertain market, in my option.

We have had a few issues over the last few weeks with information cropping up that could have been dealt with more efficiently had we had that information earlier. Therefore, I thought it would be useful to run through some of these issues ready for your next mortgage application!

Proof of Income

With more of our clients becoming professional landlords, it is vital that rental income is declared in good time.  A tax return must be completed each year for your rental income, even if you feel you haven’t made any money!

A good accountant is such an important part of your power team and as you grow your portfolio, a tax-qualified accountant will be able to advise you on how to structure your purchases depending on your future plans.  Having someone to call upon who knows your situation will save time, enable you to work out your return on investment figures, and move quickly once your offer has been accepted.

Even with all the Section 24 tax changes, it is not black and white as to whether property should be bought in an individual or corporate name – your tax status, long term plans and the profitability of the property will all make a difference.  We can work with the structure that your accountant suggests, and knowing this information upfront makes a difference to how we approach a case.  Changing the structure is also not that straightforward, so it helps to start as we mean to go on.

Company Structure

How you are structure a case can really make a difference to how we manage it and the information we need from you.  We are seeing more joint venture (JV) projects, and this is having an impact on how complicated the application becomes. There are a number of ways to set up a JV, some of which involve all parties on the application and some do not. There are pros and cons of each, and this is something you need to think about carefully. Setting out an organogram with all interested parties can be useful to establish who needs to be on the mortgage application and what information we will require from each of individual.  We can review this organogram together and see if there is a way to simplify it – for example when you have someone who is tricky to get hold of due to their work or travel schedule, there may be an alternative to the proposed set up, but this is easier to work out at the beginning.  Further down the line it may not be possible to remove someone.

Credit Issues

As you grow your property portfolio, the number of bills to pay and direct debits to check increases and this only becomes trickier to keep on top of with company bank accounts, rental accounts and so on.  The advantage of working with the lenders that we do is that they are used to working with property owners and the challenges that this brings. An underwriter, who can take a sensible view on the issue that has arisen, will assess your case as a whole.  It is always so important to check your credit file each month, and this is easy now with free companies such as Credit Karma who email your report to you to check.  Being upfront and honest with us as brokers not only makes our life easier by knowing what lenders we can use, but it helps us to build a case by balancing out a missed payment with other positive information about you as a potential client.

As always, please give us a call if you want to discuss any particular case.

In this weeks’ blog, Ellie is looking at HMO valuations and a case study for a four bedroom HMO conversion.

Many of our clients ask about valuations for HMO’s, and how they can maximise this on a refurbishment project. Clients are looking to pull as much money out of each deal as they can in order to move on to the next one with as much money as possible.

This is always a tricky question to answer, as it is not me completing the valuation! There are a few ways lenders value HMO’s, so here is a simple explanation for them all:

Bricks and Mortar Valuation

Most lenders will value a HMO as an empty house and assume that if they were to repossess it they would sell it on to a family (regardless of how much you have changed the layout). In order to achieve more than this, you would need to work with a couple of specific lenders who have other options. In all instances properties that retain the same layout as a house will be valued on a bricks and mortar basis; for example where the only change has been converting a lounge into a bedroom and perhaps adding an en-suite.

Commercial or Investment Valuation

This is where a property is valued on its yield. The lender will usually use a net market rent, so not necessarily what you are achieving for the property and the average yield you would expect to receive as an investor in the local area. They would pull these figures from local comparable properties. Most commercial or specialist lenders will use this method where the property has Sui Genaris planning, and some will also use it where Article 4 applies. There are a couple of lenders in the market that will also consider this where you have a larger HMO and C4 planning where the internal layout has been significantly changed, so that it would be more likely to be resold as a HMO rather than a house. There would also need to be a good demand for both room rentals and resale of an HMO.

HMO Hybrid Valuation

This is the tricky middle ground! There are a couple of lenders in the market that offer hybrid valuations for HMO’s with C4 usage. It is up to the surveyor to decide whether the internal layout is significantly different to a house, and whether it would sell as an HMO or as a house. This would typically be where the property is configured so that the bedrooms are doubles with en-suite, the kitchen is set up to cater for large number of people using it (multiple cookers, sinks etc) and the living space is comparatively small. The surveyor would then value it either as a house (bricks and mortar), investment, or a mixture of the two. This is where they take the purchase price of the property (or market value where is has been purchased under value) and add the cost of the conversion. This is based on an average cost so may not be quite as much money as you have spent.

 

Here is an example of a case we had recently, where our clients Maygreen Investments, bought a property to convert into a four bedroom HMO with en-suites. This shows that not only is an uplift possible on larger 5 and 6 bedroom properties, we can get it on a 4 bedroom property too, if the finish and location are right

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Maygreen Investments, bought the property for £102,500 last August. They spent £45,000 on a full refurbishment on the property, including en-suites to all rooms and you can see from the pictures that is has been completed to a very high standard finish.

 

We had a few valuations completed once the property was finished and this came in at £159,000, which is a good uplift on the bricks and mortar value of the property. We have just completed the refinance and have lent the client 75% on the new value, as there is sufficient rental income to cover this.

 

As always, if you have any deals you would like to discuss, please give us a call!

Why would you borrow your refurbishment costs?

As the competition within the HMO market increases and standards improve, we are seeing more enquiries from our clients wanting to borrow the refurbishment costs for their projects. Where we were seeing a budget of about £10,000 per room, we are seeing this double in some instances.

Using a refurbishment loan within your bridge facility means that you can up your budget to create a higher quality product.  This can mean that the property is worth more when the works are finished, as well as allowing you to command a higher rental for your property.

Why this way is different from others

Many lenders have rules in place that can be restrictive, especially with HMO’S. Some have caps on the refurbishment cost as a % of the purchase price, which can often be an issue in the north of the country.  Others require a certain amount of profit in the project, which is not the priority with HMO projects.

We have a lender who do not have either of these restrictions, as they are able to see the bigger picture.  They understand the growing cost of refurbishments and that the yield is the long-term goal investors a lot of the time.  They also understand that investors are moving north with their properties to maximise their cash-flow, so the cost of refurbishment is going to be high in comparison to the purchase price.

How it works

We will generally be able to lend you 75% of the purchase price net on day one, as long as the total loan (day one plus refurbishment costs) is less than 70% of the end value of the property.  There is also a cap at 90% of the loan to the total cost, but as long as that fits we will be able to lend you 100% of the refurbishment costs.

Refurbishment costs are funded in arrears, as you spend the money (in tranches of about £20,000 or 20% of the total cost) then the lender will check the invoices and refund your money.

The lender would look for you to have at least 1-2% profit in the deal, as long as the yield is good and you have experience in something similar.

The works must all be internal, non-structural (except single storey extensions and loft conversions) and under £1m in total. You need to have done at least one previous similar project.

If you would like to run any particular project past us, then please give us a call!