The buy-to-let landscape has changed significantly over the last decade or so. Buy-to-let mortgage rates are at their lowest point in a long time, but the stipulations for owning a rental property are much more stringent than in days gone by. If you’re curious about the ins-and-outs of how to purchase an investment property, you’re in the right place.
The rules for landlords have changed with the extra 3% stamp duty due on all purchases and the phasing out of tax relief from interest-only mortgage payments. However, buying bricks and mortar with the intention of letting it out is still the primary source of investment for the majority of Brits.
Adding value to a home is, for many, a more trustworthy process than maximising value on an investment fund. Even with new rules and regulations around a buy-to-let investment, savvy investors can still enjoy short-term income gain and long-term capital appreciation.
In this article, we will explain the process of investing in a buy-to-let property with a handy step-by-step guide about property investment for beginners.
Read on if you’re thinking about purchasing an investment property for the first time and are looking for information for how to do it.
This article includes:
- What is an investment property?
- Researching the buy-to-let market
- Finances
- Location
- Putting in an offer, legal and completion
- Finding a tenant
- Insurance
What is an investment property
Investment properties provide an opportunity for investors to buy a home and let it out on a contract basis, which is typically an AST (assured tenancy shorthold). The owner of the property then becomes a landlord to the tenant, who is the person renting the accommodation.
Is property a good investment?
The UK lettings market picked up pace in the 1980s and is now a significant contributor to the UK economy while also making up a portion of the housing market. In fact, the size of the PRS (private rental sector) is increasing.
By 2021, it’s reported that the PRS will account for a quarter of the housing market in the United Kingdom. Such numbers signal high demand for accommodation, especially as the UK is currently in the midst of a housing crisis. Despite new regulations, the current landscape of the lettings market indicates that there is still plenty of demand for rental accommodation.
For would-be landlords, this is a chance to enjoy monthly rental income whilst seeing your investment appreciate in value over time.
The process for purchasing a buy-to-let property shares many similarities with traditional house buying, yet there are some fundamental differences which we will cover.
But first, you need to know how to start in property investment – potential investors should research the market. Making money from property isn’t always easy.
Researching the buy-to-let market
Buying a property for investment purposes requires a large financial outlay, which is why you need to be confident in your decision to enter the buy-to-let industry. Before making any decision, it’s vital to do the relevant research and look at the pros and cons of any investment opportunity.
Pros
- Returns on buy-to-let investments are typically higher than fixed-rate savings accounts.
- Over time your investment can increase in value, which provides an opportunity to make a profit if you decide to sell at a later date.
- Monthly rental income can be a handy top-up for your regular earnings or even act as your primary source of income.
Cons
- Second-home purchases require you to pay an extra 3% on stamp duty: if your investment home costs £150,000, you will be required to pay £5,000 as opposed to £500 if it was your next home purchase or £0 if you are a first-time buyer.
- As of 2020, landlords are unable to claim tax relief on interest-only mortgages. The result means they will only be able to deduct a standard rate of 20% on all mortgage relief.
- You will need to pay capital gains tax on any profit you made from the final sale price if you decide to sell.
Familiarise yourself with buy-to-let terms
Part of your research process should include understanding some of the keywords used in the buy-to-let industry. Here are a selection of the primary words used in regards to investment properties:
- Gross rental yield – is the amount your tenants pay in rent minus any outgoings related to the property, such as maintenance, repairs, and letting agent fees.
- Capital growth – is the amount of profit you earn if you sell your property for a higher price than you purchased it for.
- AST – is an assured tenancy shorthold and is the primary contract between a landlord and tenant.
- Void periods – is when you don’t have a tenant in situ. During a void period you will be expected to pay for utilities and council tax due on the property.
Mitigating any risks
There are many factors to take on board when deciding if a buy-to-let property investment is the right move for you. Many people in the market have made a handsome profit from investing in bricks and mortar, and there are still plenty of opportunities to prosper in current conditions. When exploring renting out a property, think about:
- Monthly rental income – how much you can charge will depend on several factors, such as local market conditions in your property’s location. No set amount of rent is guaranteed.
- Maintenance – it’s your responsibility to fix any repairs while a tenant is in situ, either by employing the use of a property management company or by doing it yourself.
- Market conditions – if property prices increase when you own your buy to let, its overall value should increase too. However, if prices fall, so too will the value of your investment property.
- Empty property – you will be required to pay your mortgage even when you don’t have a tenant.
Deductions
Having a buy-to-let is like running a small business, as you are providing a service to the tenant. Like any business, you need to pay tax on your rental income. However, there are some aspects related to buy to let where you can claim expenses. These include:
- Basic tax relief – from 2020, you can claim 20% of the mortgage interest on your investment property.
- Furniture replacement – known as “wear and tear allowance”, you can claim any item of furniture that needs replacing as long as it’s like for like in terms of value. Eg, if you need to replace a £500 sofa, you can only claim back the value of the initial sofa.
- Repairs – any maintenance – such as boiler, kitchen, bathroom repairs et cetera – are claimable expenses.
- Accountant fees – You will be able to claim any fees an accountant charges to do your tax return and look after your finances.
- Council tax and utilities – you will be able to claim any bills that need paying during void periods
Other claimable expenses include:
- Insurance
- Letting agent fees
- Property management fees
- Service charges and ground rent
- Direct costs, such as phone calls, stationery and advertising for new tenants
Undertaking a thorough examination of the buy-to-let market will help you make a careful and considered decision about whether you would like to purchase a buy-to-let property.
Finances
If you decide to invest in a buy-to-let property, the next step comes in two parts: looking at your finances and finding an area to invest in. We’ll start with finances: without having the required money in place, you won’t be able to purchase a buy-to-let property.
The higher the deposit you have, the lower your monthly mortgage outgoings will be. The minimum deposit for a buy-to-let mortgage is usually about 25% of the property value, although it can vary between 20% and 40%..
Example based on a 25% deposit: A property worth £150,000 would require a deposit of at least £37,500
The majority of buy-to-let mortgages are interest-only, which means you still owe the initial amount borrowed at the end of the mortgage term.
At first glance, an interest-only mortgage might seem counterproductive. However, interest-only mortgages tend to have lower monthly repayments – which means you will enjoy a higher rental income.
At the end of your mortgage term, if everything goes to plan, the value of your property will have increased. If you decide to sell, you will have profit left over after repaying the full mortgage amount in full.
Lending criteria
Once you have a deposit of 25% in place, you will need to pass specific requirements of lenders. Unlike traditional mortgages, lenders don’t tend to take your earnings into account when deciding how much you can borrow.
Instead, they will look at the earning potential of the property and how much it might command in rent. Using the predicted rental figure, along with a credit check and overview of your general finances, the lender will decide on how much to offer.
Once you have an idea of how much you can borrow, it’s time to look at investment options.
How to find investment properties
When someone buys a home, they’re doing so intending to live there – and location plays a significant role. With buy to let, proximity to your home might come into play, but it’s the rental return and value of the property that plays the most important role.
Researching the property market is one of the most vital aspects for finding the right location, and you will get a good indication of which cities across the UK offer the highest yields. The best buy-to-let area might not always be the cheapest or most expensive, with many people thinking property investments in London is the way to go.
Best buy to let areas
While London is historically the buy-to-let capital of the UK, other areas have looked increasingly attractive over the years. That’s why it’s best to look at a map of the entire UK before making a decision.
As well as yields, you need to look at an area’s potential for long-term sustainability. The postcode needs to be somewhere that people will want to live, which means understanding the type of tenant you might have. A flat is more likely to attract single professionals who want to be close to amenities and travel links. A house, on the other hand, will be more suitable for a family.
You also need to think about managing the property. If you want to do it yourself, it might be better to look at investment opportunities closer to home. If you’re happy to employ a property management service (they tend to charge around 10%-15% of rental income), you’re not restricted in terms of locations.
Putting in an offer, legal and completion
Once you have identified a good location, it’s time to make an offer. The majority of buy-to-let investors purchase chain-free, which is favourable to the seller. However, the overall buying process is much the same as buying a home where you will live.
After the offer is accepted, you will need to instruct a solicitor or conveyancer to run checks on the property. Any purchase of a flat that comes with a leasehold will also need to be checked to see if the lease grants permission to let the property out – otherwise, checks are similar no matter which type of property you buy. Fees for solicitors and conveyancers cost in the region of £1,500 and can be claimed as expenses.
When the solicitor or conveyancer has finished the checks, a date for exchanging contracts will be set assuming that no issue arose. At this point you can look forward to completion. The length of time for buying an investment property is similar to purchasing a home, with the process taking between six weeks to three months – though buying chain-free can speed up the process.
Finding a tenant for your investment property
Getting the keys to a new home often feels like the end of the home-buying journey. With residential property investment, however, completing the sale is only beginning. Once you have the keys, it’s time to find a tenant for your investment.
Historically, landlords use a letting agent to market and find a tenant for their property. Today’s market means there are plenty of options for securing a tenant, from high-street letting agents to online agents. There is also the possibility of doing it yourself.
There are pros and cons to each method, and your decision will be based on how hands-on you want to be during the process. A letting agent will charge a commission-based fee (usually around 10%-15% of the annual rental, though this can be negotiated), and will take care of the entire process, from finding a tenant to referencing and contracts.
Online agents offer a similar service for a smaller fee, though they expect you to conduct the viewings. If you decide to let the property yourself, you won’t incur any costs. However, you will need to depend on social media and sites like Gumtree to advertise the property.
High-street and online agents will market your property on portals like Rightmove and Zoopla as well as using their in-house marketing resources.
Landlords insurance
Landlords will need to equip themselves with the relevant insurance before a tenant moves in. Some insurance is mandatory, while others are useful as extra protection. The type of insurance available for landlords includes:
- Building insurance – you are legally required to have buildings insurance, which protects your investment against any serious damage.
- Landlord insurance – there is no legal requirement for landlords’ insurance, though having it adds an extra layer of security and can help you protect your investment against elements like unpaid rent from the tenant.
- Contents insurance – it’s worth taking out contents insurance if you decide to offer your property furnished. This will safeguard any damage against the contents of your investment, such as furniture.
The road to life as a happy property investor
A buy-to-let investment can be a profitable venture if you undertake the required amount of research and go through the process properly. Using this guide will provide a solid foundation for understanding how the buy-to-let process works so that there are no surprises along your property investment journey.
Last Updated: July 16th, 2021
