Landlord BTL Mortgage Finance
In an ideal world landlords would avoid borrowing money altogether – avoiding interest payments, product application fees, mortgage brokers fees, redemption fees, mortgage administration costs, survey fees. However, unfortunately for most landlords, this is not a realistic option; particularly if they are in the process of building up their property portfolio. If you do have to use a buy-to-let mortgage these are some of the things that will help you get the most for your money and avoid some of the borrowing pitfalls.
How much should a landlord borrow?
The amounts that a landlord should borrow has to be an individual business decision. There is no rule of thumb. However, there are a few guidelines to throw into the pot when looking at the size of your loan. Firstly, for most of us a loan is exactly that. It has to be paid back sometime and somehow. Ultimately there are a number of ways this can happen depending on the buy-to-let mortgage type. The most obvious way is that the loan is paid back over a period of time as is the case in a repayment mortgage where both interest and capital payments are made each month. The good thing with a repayment mortgage is that not only does a landlords mortgage payment reduce over time but also you have the certainty of knowing that you will have paid off you mortgage by a certain date as long as you keep up your mortgage payments.
What is a landlords Loan To Value (LTV)
There are other criteria to consider for a landlord trying to evaluate how much to borrow. For instance, a key metric is the Loan To Value (LTV). This figure measures the amount of the loan in relation to the value of the property. Maximum figures for a buy-to-let loans have ranged up to 85% but 80-75% is more typical. At this level a property investment is highly geared. The result of this is that if property values go up a landlord could increase the value of their initial capital investment (the deposit) considerably. The converse is also true. A bad investment that suffers a capital fall in value could mean that the landlords initial capital and deposit is wiped out. A more conservative landlord would opt to borrow less than the maximum and then fund the borrowing costs out of the positive cashflow from rent which would mean no rental profits in the short term but that the tenants rent effectively is used to pay off the mortgage.
An optimistic landlord would look to borrow the highest LTV anticipating that capital values would rise considerably and reduce the LTV on sale to much lower levels and allow a capital profit to be realised without ever paying down the debt. Great when capital values are rising significantly but if house prices are stagnant or even fall this strategy could cause a problem leading to a high percentage loss of their initial capital.
For me I look to borrow the maximum I can at the best APR rate obtainable. There is a trade off as you go towards the maximum available LTV products of anything over 70% where the risk profile to a lender increases and therefore the APR starts to rise. Therefore, unless you need the extra capital then buy-to-let mortgages at LTVs of 70% and below will offer the best rates. The devil with all landlord mortgages is in the detail so make sure you do a thorough trail through all the products or employ a good mortgage broker.
The buy-to-let mortgage market is constantly changing
The thing to realise about the buy-to-let mortgage market and it’s products are constantly changing and evolving responding to funding availability, the finance market, regulations and demand. You may find the perfect mortgage product one week and unless you can secure a loan with it then the next week it may have disappeared, changed or the lender filled it’s entire allocation of funds.
Are you a standard borrower?
Lenders generally look for landlords that can show that they can support themselves independently of their rental business. Therefore, it’s ideal if you have a good safe job and a long uninterrupted employment history. This will mean that you as a landlord will have access to the maximum number of lenders and products. Landlords that are professional landlords also have a range of lenders and products that are readily available. Where some landlords struggle to get mortgage finance is when they are self employed. In this situation it may be helpful to use a specialist landlord mortgage broker to help you navigate to the mortgage lenders and products that have a more flexible attitude to a landlords affordability criteria. It’s always helpful for landlords to be aware of other forms of BTL finance. For many lenders they now require self employed landlords to provide SA302 as proof of their income. If you do struggle to find mortgage finance remember there are always alternative loan finance.
Landlords should focus on the APR
Landlords should aim to minimise long-term finance costs. They should be wary of eye catching headline rates, these often come with high product fees and often only last a year or two before more fees are required pay for re-financing arrangements.
The best measure to use when comparing different BTL finance products is the APR (Average Percentage Rate). The APR gives us the truest cost of the BTL loan, worked out over its entire term. This annualised rate reflects the rate of interest to be paid in setting up the loan, as well as the rate of the buy-to-let loan once any initial discount or special term have come to an end.
Landlords wanting to search through buy-to-let loans with the lowest APR’s can use our free BTL mortgage search facility.
Avoid paying the standard variable rate (SVR)
When any fixed period comes to an end, it is worth landlords checking whether to refinance. Many BTL mortgage products revert to a lenders standard variable rate after the fixed period, often at a far less competitive rate. If this is the case, I’d advise landlords to approach their lender directly and see whether they will drop them onto a more competitive rate, whilst at the same time checking what alternative lenders are offering in the wider BTL mortgage market.
Using a BTL mortgage broker
Guidelines on how mortgage brokers must operate are set out by the Finance Conduct Authority (FCA). They stipulate that an adviser must confirm upfront the basis of advice based on one of the following descriptions:
- We offer Mortgages from the whole of the market
- We only offer Mortgages from a limited number of lenders.
- We only offer Mortgages from a single lender or a single company
It would be reasonable for a landlord to assume that an adviser offering ‘option 1’ would be an independent adviser offering access to all the mortgage lenders on the whole market, however, the FCA only requires advisers offering ‘option 1’ to have a mortgage lender panel that is ‘representative’ of the whole of the market. This means that despite there being over 200 lenders, they might only be offering a choice of say, 10 of these!
Therefore despite a broker offering ‘the whole market’, they may not actually have access to the best possible product for a particular landlord. There might well be a better one out there. To protect from this, it’s worth a landlord asking any prospective mortgage broker, exactly ‘how many lenders do you have on your whole market panel?’ A minimum of 20 should give a landlord a fair range of between 50 to 100 different BTL products. The more lenders a broker has, the better the choice.
Another thing to be aware of when using a BTL mortgage broker is checking on the procuration fees. Procuration fees are the fees paid by the lender to the broker. In essence their commission. Some lenders pay out higher fees to a broker than others, so landlords should be wary that their broker isn’t pushing them toward the mortgage product that pays them the biggest fee.
Regulations on the sale of BTL finance
Buy-to-let finance still largely remains unregulated despite attempts by the EU to control lending in the residential property investment market. The Mortgage Credit Directive, effective 21st March 2016, introduced a legislative framework for consumer buy-to-let. However, the government has neatly sidestepped these controls in the UK market by creating a class of residential investor called a ‘consumer buy-to-let’. This type of landlord is largely an accidental landlord which excludes most private investors who undertake property investment as a business activity. The definition of the two types of lenders are as follows:
Business buy to let definition according to the HM Treasury:
“For the majority of buy-to-let transactions, the borrower is making an active decision to become a landlord, an activity for which they will receive an income and for which they will be taxed as a business. In addition, they will have to comply with a number of legal obligations placed on landlords, for example around fire and electrical safety standards and the use of a government-backed tenancy deposit scheme. In the government’s view these are characteristics of a business rather than a consumer activity and therefore do not propose such borrowers need to be covered by an appropriate framework under the MCD.”
Consumer buy to let definition according to the HM Treasury:
“There are some situations where borrowers do not seem to be acting in a business capacity. Examples of this may be where the property has been inherited or where a borrower has previously lived in a property, but is unable to sell it so resorts to a buy to let arrangement. In these cases, the borrower is a landlord as a result of circumstance rather than through their own active business decision. The government’s view is that such borrowers are consumers and would need to be covered by an appropriate framework.”
Regulation of BTL finance by the FCA
Though the FCA regulates many financial products – from pensions to standard residential mortgages, it doesn’t regulate BTL finance. The FCA was established by the Government to protect consumers, and because BTL finance remains classified as a commercial product, it is excluded from their remit. The assumption is, that those operating in the BTL sector are ‘commercially aware’ and therefore do not need the same level of protection as a general consumer.
It’s important for landords to appreciate that without regulation, there is nothing stopping someone without any qualifications or experience setting up as a BTL mortgage adviser. Be careful who you pick.
Despite having no regulation from the FCA, BTL finance does have some cover from the Financial Ombudsman Service (FOS). If a landlord does take out a BTL mortgage using a broker who they later believe to have given them bad advice or a poor deal, they are able to make a complaint to the FOS, who are then obliged to review it, using the principles of Treating Customers Fairly. This covers such things as – the way that a deal was marketed to a landlord, whether a landlord received sufficient information to make an informed decision, whether a landlord was aware of all the costs involved in the transaction, and so on.
My advice would be look for BTL brokers that have themselves a FCA registration from selling other products that do require registration, such as standard residential mortgages. Whilst this in itself will not protect a landlord, it does at least indicate that they are a professional orgagnisation and not a complete bunch of cowboys.
There is also a BTL finance trade body established by the industry, called the National Association of Commercial Finance Brokers NACFB. Though membership is voluntary, it does set out a number of good practice guidelines that it expects members to operate within. However, they have no direct powers to act in the consumer’s interest if any of their members do break their code.
Prudential Regulatory Authority (PRA) – landlord mortgages
Whilst the Government has stepped back from overt regulation of the buy-to-let market, and following the Brexit vote we’ve managed to side step any European interference, some market‘jitters’ have set in within the Government concious in respect of excess credit in such as low interest environment and the potential wider implications to the wider economy.
The response from Whitehall has been the introduction of the Prudential Regulatory Authority (PRA) .
The PRA was established to help maintain stability within the economy; a parting shot by ex-Chancellor, George Osborne to help tighten lending in the buy-to-let sector it enforces more restrictive guidelines to banks underwriting BTL mortgages for landlords.
In essence it means that landlords are able to borrow less.
The PRA introduced an affordability test requiring landlords to be able to afford repayments based on an assumed interest rate of 5.5% as opposed to their actual pay rate.
This has had the effect of increasing the amount of rental cover required by many lenders from what was an industry average of 125% of the rent to around 145%.
Portfolio landlords (defined as 4 or more properties) face much tighter tests on their income than previously. This element of the change came in from 30th September 2017.
Your home may be repossessed if you do not keep up repayments on your mortgages.
The Financial Services Authority does not regulate some forms of mortgage.