Date Published 25 November 2014
1) Manage your borrowing
Part of the lure of buy-to-let is the borrowing. This magnifies the returns on your cash or gives `leverage`. But it also adds risk. Say you put down a £110,000 deposit, borrow £165,000 and buy a property for £275,000 which you rent for £1,250 per month. Before mortgage costs that`s a yearly income of £15,000 on your £110,000 down payment – or a massive 14pc. Assume mortgage costs of 4pc (£550 per month), meaning your net rental income drops to £700. That`s still a handsome return of nearly 8p on your down payment, thanks to the effect of the borrowing. None of the above takes into account capital growth. If your property rises in value, on top of your rental income, the total return on your original £110,000 looks even more mouth-watering.
The powerful effect of borrowing on total returns from buy-to-let, including the real growth in property prices. Between 1996 (the year buy-to-let loans first became available) and the end of 2013 the per-year returns for a buy-to-let investor who simply purchased their property with cash averaged 10pc.
That`s an extremely healthy annual return. But where the buy-to-let investor made his cash work harder with the help of a mortgage of 75pc of their property`s value, the per-year return over the period came in at a far higher 16pc.
To put those returns into perspective, an investment in commercial property delivered returns of 8pc per year over the period. The stock market, as measured by the performance of the FTSE All Share Index, delivered 7pc.
But borrowing is risky. Mortgage rates are at an all-time low and will rise within the coming years, even if they are not predicted to rise very far or fast. Rents are already very high relative to incomes, suggesting that landlords might not be able to push up rents just because their mortgage costs start to climb.
If you are letting a property for a long period of time you will need a specialist landlord mortgage. These were freely available before the financial crisis with Bradford & Bingley being one of the biggest lenders. But when the crisis struck B?&?B was one of the banks that needed rescuing. Landlord`s loans dried up after that and have only in the past two years become readily available again and increasingly competitively priced.
2) Know your customer when you buy your properties.
Since the onset of the financial crisis in 2008 09 there has been a growth in `accidental` landlords. These are people who opted to let a property perhaps because they couldn`t sell it in a weak market. It was a property they probably had lived in themselves, rather than one chosen deliberately for the purpose of letting. But landlords who set out specifically to maximise returns can be more discriminating. Experienced landlord Graham White, right, who owns around 10 properties, suggests broad rules of sticking with newly built properties. Two-bedroom houses and flats are best, he reckons. Their maintenance costs are lower, and they suit the profile of young, professional and reliable tenants who are renting while they save to buy.
Two-bed, newly built homes were the properties favoured by Britain`s most famous landlords, Fergus and Judith Wilson, pictured further down, whose portfolio of 1,000 such properties around Ashford, Kent, are now worth £200m to £250m
But you need an area where there is strong tenant demand. Steve Bolton, below, a property investment millionaire and founder of Platinum Property Partners, a franchise business for landlords, takes a fairly scientific approach. Using Office for National Statistics data he identifies areas where there are populations of at least 20,000 working-age people. He then marries this against information about property prices and rents. Higher than average rents indicate stronger demand in an area.
While Mr White and the Wilsons favour the types of property sought after by young professional couples, Mr Bolton is among those who think bigger profits can be made from letting individual rooms within larger homes. So he seeks out larger, sometimes older, properties which could be converted from family use into multiple rooms with five or six tenants. Called HMOs or `houses in multiple occupation`, this type of buy-to-let requires more work from landlords. There is also the issue of planning. Some local authorities are much less likely than others to grant planning consent, Mr Bolton said, highlighting Milton Keynes as one example.
3) Don`t count heavily on property price rises
You could gamble on rising house prices. And if that`s what you want to do, in its purest form, you needn`t ever let your investment property: just buy it, hang on to it and sell for a profit in the future.
At least that would be your hope. But that capital-growth-only strategy has burned many investors, notably those in 2006 07 who were trying to `flip` properties before they were even built.
The ruse there involved signing up to an unbuilt flat costing, for example, £200,000. All you`d put down was a deposit of say £20,000. A year later, once the flat was complete – possibly even before – you sell it for 10pc more, at £220,000, and that`s a £20,000 profit or 100pc return on your stake.
While that trick may have worked for a few lucky gamblers whose timing was just right, it was a disaster for others – who found themselves in 2007 and 2008 lumped with unlettable properties worth less than the price they`d promised to pay.
The lesson? Don`t depend, at least in the short term, on rising prices. You are almost certainly going to have to pay capital gains tax in any case. Now read tip number four?.?.?.
4) Make rental income a big part of your total return
While capital growth will be what you hope for over the longer term – and while history suggests you will get it – in the short term most experienced landlords focus on cashflow. In particular make sure your mortgage repayments and other costs will be covered. Mr Bolton said: `Most people think their biggest asset is their home, but in many cases they`re wrong. A property is only a true asset if it`s servicing its own debt. If you have a mortgage and use part of your salary to pay it every month, then the uncomfortable reality is that your home is probably your biggest liability.`
He pointed out that many buy-to-let investors made similar mistakes, buying properties where the rents only just or don`t quite cover the costs. `I make sure every buy-to-let I buy not only services its own debt but brings in a high enough level of profit to make an income.` He said this layer of profit should also be fat enough to `insulate against market fluctuations and interest rate rises`.
Because if it doesn`t and interest rates rise, an investor could be in the uncomfortable position of having to `sub` their properties out of other income or sell them – possibly at a bad time and for a loss.
5) Boost returns in other ways
Former Boots boss Cathy Colston is among those to have followed Mr Bolton`s advice. She had already been an investor for some years before quitting work and turning to full-time buy-to-let as a replacement income.
She quickly realised that for yields to be maximised it helped enormously to convert property, refurbish it or otherwise add value. But that involves work – and is far from the easy, `armchair` investor`s idea of buying to let. In an interview with the Telegraph Money in May, she explained her strategy. `I generally buy large, family homes and then convert them into six-bedroom properties with an average of four bathrooms.` These could be either Victorian terraces and semis or Thirties properties, she said, and she typically spends 10pc of the purchase price converting or updating the properties, and borrows about 75pc of their value. `Whatever I do by way of conversion, I ensure the properties could still be restored to single-family use,` she said. `That way I`m not limiting their future value.` Her tenants include both young professionals in work and students, and are mainly in the western centres of Bath, Cardiff and Bristol.
6) Never scrimp on tenant checks, inventories and other risk-cutting measures
Using a lettings agency cuts out the work of both finding tenants and screening them – but for the privilege you may lose as much as 10pc per year of your income.
Most full-time landlords aiming to build portfolios for the purpose of providing an income don`t use agencies. Instead, they do the donkey work themselves until they have a big enough portfolio to employ someone part-time to help. That works out cheaper than an agency.
There are a number of low-cost credit search and referencing services which landlords can buy through organisations such as the National Landlord Association (see below). These also give access to tenant deposit schemes and other services typically provided at much greater cost by agencies.
Doing a very careful inventory before a tenancy begins is also vital. David Lawrenson, author of Successful Property Letting and founder of the property letting information site Lettingfocus.com, said a good inventory should include everything down to toilet roll holders and the make, model and serial number of appliances such as washing machines. The reason for very `tight` inventories, he said, is to ensure tenants `can`t dispute valid reasons for deducting money from their deposits at the end of the tenancy`.
7) Be properly insured
Landlord insurance is a growing area, with an increasing number of specialist policies covering everything from standard buildings and contents risks to loss of rent, boilers, heating and other appliances. Not having the right insurance can be disastrous, as many landlords have discovered - such as those whose property may have been damaged or even trashed.
8) Consider specialising in one area of buy-to-let
For Mr Bolton and many other professional landlords the most attractive form of buy-to-let is HMOs, where multiple tenants are housed within one building, often on separate tenancies.
But that is just one specialism. Other landlords have targeted niches such as student properties, properties for those in receipt of housing benefit, or upmarket, luxury properties for executives whose rent is typically paid by an employer. Most successful landlords say they enjoy dealing with tenants, so that is likely to play a part in their choice of investment.
But deciding to pursue one type of investing could limit, among other things, your ability to raise mortgages. Many lenders will not lend against HMO properties or those requiring major refurbishment.
9) Use the internet, chat forums, landlord organisations and books to glean experience and confidence
There are two major organisations representing private landlords: the Residential Landlords Association and the National Landlords Association, both of which offer information and services. Bookmark Telegraph Money`s buy-to-let pages where you can find numerous articles, including case studies of successful landlords, regularly updated.
And sign up to receive Telegraph Money`s free, weekly newsletter,which will ensure you hear about latest trends in property prices, rents, interest rates and mortgage deals.
Mr Bolton`s book, Successful Property Investing (how to earn £50,000 to £150,000 in two to five years), and updated editions of David Lawrenson`s Successful Property Letting are both available online.
10) Keep meticulous records (to help reduce your tax bill)
There are numerous book-keeping software packages for landlords, but many choose to develop their own systems. Not only does disciplined record-keeping help avoid problems with inventories and potential tenant disputes, it also helps ensure you meet changing regulations, including requirements from local authorites. Detailed record-keeping is also essential to benefit from landlord tax breaks. A vast range of costs can be offset against profits for tax purposes, but they will need to be documented.
The growth in private landlords has resulted in crackdowns by the taxman – all the more reason for assiduous record-keeping.