In our latest webinar Tony Gimple, tax & estate planning consultant and co-owner of tax and estate planning service Less Tax For Landlords explained why the new buy-to-let mortgage rules might not be so bad for landlords after all. Have a read through his argument below and watch the webinar to see what questions our listeners had for Tony.
What with Section 24 reducing your profits and now the PRA seemingly restricting how much you can borrow, landlords could easily be forgiven for thinking that there’s a big ‘kick me’ sticker on their backs. And to a degree they would be right; especially those landlords making tax payments on account who are now seeing the effect on their cash flow and ability to reinvest. No wonder all really does seem doom and gloom.
Now the good news – this is your chance to make highly sustainable profits by running a professional property business, which is exactly what the government wants you to do! But why is that? Governments of all hues are a business just like yours, albeit some of them seem more intent of spending money rather than creating the conditions to make it, but they all depend on tax to pay their way, and successful business and the individuals within them
make that possible. In short, the more you earn the more tax you pay.
So what do the latest headlines actually mean?
Lenders will be looking at your whole buy-to-let portfolio
This is how commercial portfolio lending works, and is how all the truly big property businesses borrow money; large or small, the same principles apply – size doesn’t matter here, the business case trumps all. And that’s exactly what BTL lenders will be looking at.
All too often, landlords have grown their portfolios with very little planning, and not every rental property makes a profit. Some lenders may take an ‘overall portfolio profitability’ view, whereas others will require each unit to make money. Either way, the new rules mean that lenders will need to make sure that your rental income makes you a profit.
That’s no bad thing, as you’ll be forced to take a much harder view of what makes a good investment – something that every successful business does. If a property is not making you money, then it’s costing you money, and the new rules give you the chance to reassess underperforming assets. By the way, how much the property is worth now is meaningless, until you come to use it that is. Meanwhile, profitable income is by far a better measure when it comes to raising mortgage finance. What do they say in business – turnover madness v’s profit sanity; hence in large part the new rules.
Tougher underwriting criteria for portfolio landlords
According to the PRA, “A landlord will be considered to be a portfolio landlord where they have four or more mortgaged buy-to-let properties across all lenders in aggregate”.
In addition to the usual affordability checks, when assessing your eligibility for mortgage finance lenders are being required to have robust underwriting processes in place for portfolio landlords, which means they’ll be asking for bank statements, tax returns, future liabilities, SA302s, ASTs, rental accounts, income and expenditure statements, and a business plan.
The new stress test on buy-to-let mortgages
What, it’s not hard enough being a landlord?
The stress test forces lenders to check a borrower can afford repayments, if or when interest rates hit 5.5%. That’s no bad thing, as anyone who lived through the early 90s saw interest rates hit 15%, so making sure that if rates rise you can stay in business really is no bad thing.
Generally speaking, the lower the leverage the better the risk. That said, borrowing too little means that your available capital is under utilised, and thus your ability to grow is reduced. Is there an ideal percentage to borrow; each business is different, but most professional investors work to a 60% LTV with returns of 7%, leaving plenty of fat in the system.
Lenders should take into account the impending changes as to the amount of tax relief landlords can claim against mortgage interest
This more than anything will cause the biggest problems, as the Section 24 changes can easily make a basic-rate taxpayer a higher one, or push a higher-rate one into advanced rate (don’t forget that between £100,000 and £123,000 you’ll be paying tax at 60%). Paying more tax will reduce how much you borrow and grow. Remember, it’s not just the tax increase that hurts, it’s the cumulative effect on your cash flow when making payments on account that causes the real pain.
Don’t think that incorporating will solve the problem, rate differences, restrictive terms, redemption penalties, and transactional costs to one side, limited companies are subject to seven layers of taxation, further reducing your profit and thus how much you can borrow.
If you want to borrow more, then minimising the amount of tax you have to pay is essential.
Lenders will also ask to see a business plan
Failing to plan means that you are planning to fail, and no lender wants to provide a mortgage to a failing business. Not only does having a well though through business plan make borrowing that much easier, it significantly increases your chance of becoming financially independent whilst you’re still young enough to enjoy it.
So what should your business plan look at?
It doesn’t have to be War & Peace, just a written document that clearly states what your financial targets are, why they are important to you, how they are going to be achieved, and whether your current investment strategy will actually get you there. In particular, it’s the focus on the hard numbers that will get you to the point where you no longer have to work; unless that is what you want to.
Your business plan will need to include all your sources of income (not just rents), a summary of your experience in residential investment property, details of the operating model, tenant profiles, the supporting business infrastructure (including professional service providers, letting agents, solicitors, accountants, property management, etc.), details of any voids / tenant defaults / evictions that you have experienced and how these situations were managed, together with what plans you have to manage those in the future), your future funding requirements for the next 18 months, and proposed future purchases, improvements and disposals including property type, tenant type, sources of funding and funding voids during improvements etc.
Can lenders take into account rental rises?
Yes, but only to a very limited degree. When assessing affordability, a mortgage lender can take into account rental increases but these must not exceed the Government’s inflation target of 2%.
Will I still be able to raise capital to spend rather than to reinvest?
Some lenders like Santander have already said that It will not accept applications from portfolio landlords for the purpose of personal capital raising. Others will have different Criteria.
That highlights the business case even more, in that if you’re having to remortgage just to get the money out because the rents aren’t high enough and are relying on house price inflation, then you’re in real danger of going bust.
In summary, BTL lenders will be looking at:
• Your property investment experience
• The total amount of your mortgage borrowing across all properties
• Your assets and liabilities, including tax liability
• The merits of any new lending in context of your existing buy to let portfolio together with
your business plan
• Historical and future expected cash flow from your portfolio
• Your income both from property and elsewhere
If you’re running a professional property business, then you’ll have all of this to hand and be
confident in the numbers. If not, expect a hard time.
So, going back to the beginning; it’s time to take the ‘kick me’ sign off your back, and replace
it with the one that says; “I’m a professional landlord with a thought through deliverable
business plan with maximised returns and the lowest tax bill the law allows. You can lend to
me with confidence”.
For those landlords looking to further optimise their property portfolio, Howsy offers free tenant finding and full property management for a fixed low monthly fee: £54pm in London and £35pm anywhere else in England. Let us help you save some money without sacrificing your time. Try Howsy today!
If you are wandering whether whether restructuring your property portfolio could be a good option for you, Less Tax For Landlords is offering a free initial tax assessment you can claim here.