If you spend any time online reading blogs and forums on investing, you will no doubt read about why investing in property is a bad idea. However, there are many benefits and we should take the emotion out of the decision. If you have concluded that property investing is a good idea but you are still not taking the plunge, it maybe that fear is stopping you from investing in property.
Of course, there are pros and cons to investing in property or real estate and here I go through some of them.
Interest rate hikes
When investing in buy to let property, using a mortgage ,you will have to factor in interest rates into your cash-flow forecast. Yes, interest rates may rise and probably will as they have been at historically low rates for over a decade.
Interest rates will rise for a reason and that is that central banks are trying to dampen inflation. Inflation means that prices are going up and yes that will include the value of your investment. This will also give you an immediate boost in your equity in the property. For instance, if you buy a property worth £100,000 with a 75% loan to value mortgage and therefore £25,000 deposit you will have £25k equity. Let’s say inflation is 10% per annum (as it is at the time of writing). The following year your property is now worth £110,000. Your mortgage is still £75k on an interest only, but you now have £35k equity or a 40% increase.
That’s not all that will rise. Rents will also rise, meaning that you can increase your monthly cashflow over time.
Of course, you should still be mindful of interest rate rises and therefore when you do your due diligence on a property purchase, always stress test your cashflow forecast using a higher rate of interest. For example, let’s say that you can get a mortgage at 5% p.a. then stress test your returns at say 9 or 10%. Will you at least break even if interest rates doubled? Remember though that interest rates will rise for a reason and those reasons are typically good for you.
House price crash
The second fear, that is common around property investing, is what if there is a housing price crash. Have you bought at the peak of the market? That is a legitimate concern if you were trading or flipping property. However, investing in property is for the long term ie. for ever. If you never plan to sell your property, then you don’t need to worry about a reduction in the price of your investment. It’s irrelevant and anyway over any 10-year period the price will always increase. Historically the UK property market rises at 7% per annum on average. Even though some years they will drop, other years they will increase by even more.
The other thing to remember is that you will be buying with at most a 75% LTV and so there would need to be a 25% crash (rare) for you to be in negative equity and that’s if the crash occurred straight after you purchase. In all likelihood the correction will occur some years after you buy, so you will have already locked in additional equity.
Tax – the government hates landlords
I’m quite sure that the UK governments of all hues will come after landlords because we are an easy target. We don’t represent a large constituency, so they are not bothered at losing our vote.
Politicians can score easy points with voters by saying how they are going to come after ‘evil’ landlords. This I’m sure will always be the case but even the most zealous politician will realise there needs to be a buoyant private rental sector.
They will only go so far before it negatively effects the property sector. For instance, section 24 has forced many landlords to sell up. These sold properties are bought by buyers to live in, so there are less properties to rent. People who chose to rent have fewer rental properties to choose from and more competition. Ergo rents go up. The policy which was meant to help tenants has made it worse for them.
Tax is a major factor in your business to consider, so it may be an advantage to consider investing within a ltd company.
Dealing with tenants
Another big fear that can stop the erstwhile landlord is having to deal with difficult tenants. However, this can be mitigated by using a Letting’s Agent/Management company to deal with the day to day running of the property portfolio. If you don’t want to be a hands-on landlord, then factor in for 10% costs for using this service. Read my other post on letting out your property for tips on finding a good company to work with.
Vacant periods
Vacant periods are the bane of the landlord, the longer the period of vacancy, the less profitable you will be. You can however mitigate against this. When you do your due diligence on a project, factor in for vacant periods at the start whilst working out your potential profits You can then see if the figures still stack up.
Factor in for around 10% of your rent to cover for vacant periods and if you have one month of vacancy between tenants, you should be covered.
Legislation
I may be a cynic, but as I said before, I don’t think Uk Governments particularly like private landlords even though they need them. There will always be more legislation to contend with, from changes in the EPC required ratings to requirements for landlords to be registered. If you take this as a fact of life and the price you must pay to own a fantastic asset, then this is the right mindset.
HMRC can be a useful source of information as can for instance the NRLA. If you are using a Lettings Agent, they too should be able to help you.
My philosophy is that new legislation is unavoidable and you may as well welcome it. It will weed out the rogue landlords who give us a bad name and put off the faint of heart landlords, thereby removing some competition for deals.
Remember the benefits
So, there is my list of common fears that stop people from investing in property and I’m sure I’ve allayed those fears. I would also like to remind you of the benefits as well.
Geared investment – capital gains
Historically UK property doubles in value every 10 years. So that is a great reason to invest. Bear in mind that if you get a buy to let mortgage at 75% LTV, these capital gains mean that this LTV will reduce over time. So, if you spend £25,000 of your own money as deposit and the £100,000 property doubles to £200,000 in 10 years, your equity goes to £125,000. That’s a return on investment of 400%.
Cashflow
Of course, your prime motive for investing in property should be immediate monthly cashflow. If you’ve done your due diligence, you should be cashflow positive from the time your first tenant moves in. The rent minus mortgage and costs should leave you with profit every month. If it doesn’t stack up at the start, then don’t proceed with the investment. Never invest with the hope of things moving in your favour in the future – it should make sense now.
That said, let’s say that your first property cashflows £200 per month profit and your living expenses are £2,000 per month. You would only need a portfolio of 10 properties to be financially independent.
What if you run out of savings to invest in deposits? That’s where the next great benefit is.
Get your money back out
As your equity in the property raises in time and the LTV reduces, that means that at a future date you can re-mortgage the property to remove some of this equity which can be used on the next deal. For example, the property has doubled in value to £200,000 and you initially had an LTV of 75%, when the value was £100,000. Well now your LTV is 37.5%. (£75,000/£200,000 x 100).
In this example, we decide to remortgage back to 75% LTV, you could pull out £75,000 of equity. (75% of the uplift of £100,0000). You could in theory purchase 3 more properties. Rinse and repeat.
It may take 10 years to double in value, but what if there was a way of getting your money back out of the property (to re-invest) sooner. Well there is. If you purchased at 25% below the market value (BMV) our example would look like:
Market value – £100,000
Purchase price – £75,000
75% LTV – loan = £56,250, deposit £18,750
Remortgage at market value (£100,000)
New loan amount – &75,000
Equity removed – £75,000 minus £56,250 = £18,750
So there you’ve removed your equity which can be used to purchase your next property.
Property in the UK is a great investment, don’t let fear stop you from taking the plunge.