Buy-to-let Property Explained: A Great Investment

A buy-to-let property is a great way to generate passive income when diversifying your investment portfolio. 


In this article, I will talk about the steps of becoming a landlord, selecting the correct mortgage and choosing the right property to ensure that it is aligned with your investment goals. 


Key Takeaways

  • Buy-to-let mortgages are different to mortgages for a home
  • Rental yields from a buy-to-let property
  • Understanding the tax implications of a buy-to-let property
  • Understanding the responsibilities you'll have as a landlord
  • Safeguarding your investment
  • Determining if buy-to-let aligns with your investment goals
  • Exploring alternative options


Do you want to diversify your personal investments and generate more passive income? Becoming a landlord and buying a property is potentially a great investment. 


A typical buy-to-let property rakes in about £1,000 in monthly rent, which can significantly supplement your income, especially if you have no borrowings or only a small mortgage.


Property is also an excellent long-term investment, as you can make a profit when you come to sell. Property has significantly outperformed inflation over the past 40 years.


However, with all investments, buy-to-let has challenges and risks. You need to consider your responsibilities as a landlord, including the increased complexities and regulations.


Here's what to think about when buying a buy-to-let and becoming a landlord. 



1. Getting a Buy-to-Let Mortgage


Unless you’ve got cash in the bank to buy the property as a cash buyer, you must get a mortgage to purchase the property. 


However, not just any mortgage will do; you'll require a buy-to-let mortgage


The eligibility criteria and repayment terms for these mortgages differ considerably compared to a typical mortgage.


Applicants must be existing homeowners with an annual income surpassing £25,000. Strong credit history is important, and specific lenders may have age restrictions, often preferring borrowers under 70. Having a high income is not as important as it is for residential mortgages, and your tenant is expected to repay the mortgage from their rent. We discuss this in great detail in the next section.


What is a buy-to-let mortgage?

The difference between a mortgage and a buy-to-let mortgage is how the lender (the bank or building society) calculates how much you can borrow.


The lender will look at the property's potential rental return before deciding how much they are willing to lend you.


Lenders may offer you a choice of repayment or an interest-only mortgage. With rising interest rates, an interest-only mortgage is a potentially better option for borrowers with a higher level of borrowing. This is because, with an interest-only mortgage, you are only servicing the interest on the loan. Then once interest rates go down, you can switch to a repayment mortgage.


What deposit would I need for a buy-to-let property?

Typically, you need a bigger deposit for a buy-to-let mortgage. Lenders will look for a deposit of at least 25% for a buy-to-let property. However, to get a more favourable deal, you’re looking for a deposit amount of 40%.


If you don't have a large deposit, it may be possible to buy with 20% (or less with specialist lenders) but you're likely to pay higher fees and interest on it.


So how much can you borrow?

A lender will look at the property's rental income before determining the maximum you can borrow. 


A general rule of thumb is that your rent should exceed your monthly mortgage payments by around 25-45%. For instance, if you set a monthly rent of £1,250, your mortgage might cost you around £1,000 monthly. 


Lenders favour this margin as it shows you can pay your mortgage between tenants. 



2. How to Make Money with a Buy-to-Let Property

To get a return on investment on your buy-to-let property, you will need either:

  • profit from the rental income
  • or sell the property for more than you brought it

Reviewing the two points above before deciding whether to go forward with a buy-to-let property is essential. 


Evaluating a buy-to-let property's short-term and long-term profitability is also very important. One effective method to measure the financial profitability of a rental property is by determining its rental yield. 


Essentially, this figure represents the annual rent income as a proportion of the property's total value.


For instance, if you're eyeing a property valued at £200,000 and aim to set a monthly rent of £1,000 (totalling £12,000 annually), the calculation is simple: divide £12,000 by £200,000, and then multiply by 100. This gives you a gross rental yield of 6%.


A strong rental yield often hovers around the 5% mark. However, certain properties might boast even higher yields, sometimes surpassing 7%. HMOs (Houses in Multiple Occupation) can generate 12% and 15% yields.


However, remember to pay attention to maintenance expenses. While there's no exact figure for potential outlays, it's prudent to allocate at least £250 annually for upkeep.


Service charges are also an important consideration when buying apartments. This can significantly lower the investment yield. Though for balance, apartments tend of deliver a higher rental yield.



3. What Taxes Do You Pay on a Buy-to-Let Property?


When buying a buy-to-let property, you will need to look at the associated tax implications.


Rental Income Tax

Your rent income will be subject to taxation based on your existing tax rate, which can push you into a higher tax bracket. 


However, there's room for relief, as you can offset several costs against your taxable amount. These deductible expenses include:

  • Fees from letting agents
  • Building and contents insurance premiums
  • Council tax charges
  • Utility bills (assuming you cover them for your tenant)
  • Property upkeep like roofing repairs or boiler replacements
  • Damages to furniture or fixtures post tenancy


Relief on mortgage interest is capped at the basic rate of 20%, irrespective of your tax bracket, whether higher (40%) or additional (45%). For higher-rate taxpayers, registering your buy-to-let property as a limited company would make more sense as mortgage interest rate relief is available.


Contact us if you want advice on how best to structure your buy-to-let mortgage.

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Capital Gains Tax (CGT)

If you sell, the property may need to pay Capital Gains Tax. 


This tax is levied on the property's appreciation in value since your acquisition, essentially, your gains. CGT is charged at 18% or 28%, depending on your tax rate.


However, there are leniencies. Your profits might be exempt from taxation in specific scenarios.


For a more detailed view of rates and allowances, the official GOV.UK site has comprehensive resources on Capital Gains Tax.


Stamp Duty 

An additional 3% stamp duty is levied on second or subsequent properties, including buy-to-let acquisitions. This tax applies to all investment properties priced above £40,000. Crucially, the 3% stamp duty is set on the full price of the property, not merely the amount exceeding a specific tax threshold. For overseas investors, there is an additional 2% surcharge.


Buy-to-let Property Infographic-2

4. Your Responsibilities as a Landlord


Tenancy Agreements

There's an array of tenancy agreements, but the assured shorthold tenancy (AST) is the most popular. 


An AST gives the tenant the legal right to live in your property for a specific or recurring term, usually six to twelve months


The agreement clarifies rental amounts, repair obligations, and the notice period needed for eviction. It also specifies terms for rent adjustments, tenancy duration, and the deposit protection scheme.


Deposit Protection 

The scheme is a safeguard for the deposit funds provided by your tenants. 


If you don't have one, this could result in penalties for you or your letting agent. There are two types of government-endorsed deposit systems: insurance and custodial.

  • Insurance Scheme: The deposit remains with you or your letting agent, with an insurance premium paid. Trusted providers include the Deposit Protection Service, MyDeposits, and the Tenancy Deposit Scheme.
  • Custodial Scheme: In this arrangement, the deposit is entrusted to the scheme directly, freeing you from its custody. These schemes also offer independent resolution services for potential disputes with tenants.


Right to Rent Checks

You must ensure your tenants have permission to rent within the UK.


Learn more about Right to Rent on GOV.UK


Enhancing the EPC Rating

Your property must meet specific energy efficiency standards. If its Energy Performance Certificate (EPC) score is F or G, you must improve it to at least an E before letting it. 


However, there's a cap to how much you have to spend: £3,500 (inclusive of VAT) for energy-centric upgrades. If, post-spending, the rating isn't E, you may qualify for an exemption. Refer to GOV.UK for guidance on energy efficiency


It's worth noting that higher ratings can be enticing for tenants due to reduced energy bills and eco-friendliness.


Additional Landlord Duties

Being a landlord extends beyond collecting rent. Your responsibilities also include:

  • Ensuring a safe living environment for tenants.
  • Addressing repairs related to the property's structure.
  • Upkeeping heating and water systems.
  • Verifying furniture's adherence to fire safety certificates.
  • Certifying the safety of gas and electrical systems.
  • Having the correct information and paperwork.

Due to the increased regulation and obligations of being a landlord, many landlords prefer an estate agent to oversee the day-to-day management of their investment properties.



5. Insurance

As a landlord, you'll need the following insurance:


Buildings Insurance

You will need building insurance before you can get a mortgage on a property. This insurance shields you from financial setbacks if your property encounters damage or if a complete rebuild is necessary. 


Take note of the correct rebuild value on your building's insurance form. This is different to the amount you paid for the property.


A chartered building surveyor can do a valuation to ensure you're getting the correct rebuild value.


Contents Insurance

This insurance protects the property's internal items, such as furniture and fittings. 


Even for properties that aren't lavishly furnished, basic contents insurance can be invaluable, safeguarding essentials like carpets, curtains, and appliances. However, the tenants must insure their items.


Landlord Liability

Landlord liability insurance protects against potential legal complications from injuries or fatalities within or linked to your property. 


While not always mandatory, certain scenarios may need specific levels of this insurance. For instance, this insurance becomes important if your property caters to students, operates as an HMO, or falls within specific local jurisdictions.



6. Selecting a Property

So, you've decided to invest in a buy-to-let property - now comes the fun part: selecting the right property.


At the Heaton Group, we have a great range of properties in Manchester which you can check out here!


Book a Free Property Investment Consultation Call


To make a smart purchase, you need to step into the shoes of potential tenants: understanding their preferences and needs will guide you to a property that not only appeals but also commands a competitive rent. Location, as they say, is everything.


Aiming to lease to families? Properties near top-rated schools and facilities should be on your radar. For students, affordability reigns high. They'll likely want properties within easy reach of their university, transport hubs, and bustling nightlife.


But, consider the charm of smaller properties; they can become highly sought-after rental options with the right address. 


Additionally, new-build properties, though often pricier upfront, can be a smart investment. Not only do they cut down on maintenance and renovation expenses over time, but they have better energy efficiency, which can be a significant draw for the environmentally-conscious tenant of today.


If you are looking for capital appreciation by acquiring property below market value, then off-plan property may be a viable option for you. This way of investing is good for investors who want to build up a property portfolio very quickly. However, this option is not for everyone as it can involve a higher level of risk.



7. Pros and Cons of Buy-to-Let Property

Advantages of a Buy-to-Let 

  • It presents an opportunity for both immediate and future financial autonomy.
  • Traditionally, it's a stable long-term investment, with properties generally gaining value over the years.
  • There's potential for short-term profit if the rent covers your mortgage expenses.
  • As of 2023, there's a significant disparity between the demand for rental homes and their supply, ensuring your property will likely be in demand.

Disadvantages of a Buy-to-Let 

  • Many mortgage providers require a rental cover of 145%.
  • The sector is riddled with numerous regulations, though seeking assistance from estate agents can help with challenges.
  • All landlords face a cap on tax relief for mortgage interest, limited to the base rate of 20%.
  • Purchasing a new property that is not replacing your primary home incurs an additional 3% stamp duty.
  • There's a need to factor in Insurance Premium Tax (IPT) on standard insurance policies.
  • Selling the property might attract Capital Gains Tax on any profit made.


9. Is a Buy-to-Let Property Right for Me?

Ultimately, the decision to become a landlord is yours to make. 


This investment can prove lucrative and fulfilling with careful property selection and diligent management. It's important to familiarise yourself with the market dynamics and the prospective returns of buy-to-let investment. Should you have reservations, consulting our local letting agents for insights on current market trends can be invaluable.


Of course, you don’t have to buy property directly to gain exposure to the UK property market. Many investors prefer to invest in property via, funds, bonds, and equities (such as homebuilders or REITs.)



10. Tips

Knowledge is power. Continually educate yourself, adapt to market trends, and never underestimate the importance of an emergency fund. And remember, a strong network – estate agents, solicitors, and fellow landlords – can be invaluable.


To wrap things up, buy-to-let is exciting and ripe with opportunities. If you're pondering whether to take the plunge, why not schedule a chat with me to review your options?


After all, a conversation today can lead to personal future growth capital tomorrow.


Warm regards,


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