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Buying a Second Home in the UK (True Costs of a Buy to Let)

Posted by Hanna Liversidge on 13th October 2019
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How much does it cost to buy a second home in London? Well by the end of this article we’re going to find out, so make sure to stay to the end so you can factor the right budget!

Today we’re going to be talking about the costs associated with buying a home in London so make sure to stay to the end because I’m going to give you real-world examples of exactly how much it’s going to take. So just as a quick overview – the average home price in London is about £470,000 and yields hover around just under 4% most investors historically have been attracted to the London property market because prices have gone up so much over the years and it really is a very stable investment especially relative to other investment considerations you might want to make.

 

Now once you’ve got a sense of the average cost of buying a home in London, the first question is what kind of budget you might have, and whether you’re going to be paying cash or will you need a mortgage to help finance that purchase? If you will need a mortgage, generally speaking, most lenders will lend from 0-75% percent of the purchase price amount or Loan to Value (LTV) on the mortgage that you’ll be able to achieve. As a buy-to-let or rental property you will need a special buy to let mortgage and the difference is those can be offered on an interest-only basis and while that might sound good in that you’re only having to pay the interest portion it means that over the life of the loan you haven’t paid down the loan amount or the original principle amount at all and you’ll have to rely on either selling the property or perhaps even re-mortgaging to pay off that original loan amount.

 

Buy to let mortgages typically will be at a higher cost than your owner occupier mortgages, they might have additional fees, the loan to values might be less, and why is that? Because it is perceived as a greater risk because the bank is reliant, or you are relying on the income that will come off of that property to pay that interest expense. It means you might be exposed to void periods or times when the property’s not occupied, you’re reliant on market conditions that will dictate the amount of rent that you’re able to achieve, and all of those things create more risk for the bank and therefore they’re going to have greater restrictions and higher costs associated with it most investors will generally try to get as high a loan to value that they can achieve or get from the bank and that’s not a bad idea considering that interest rates are still historically low therefore the interest that you’re going to be charged on that is relatively competitive you’re going to have to actually balance that against the actual rental income you’ll be able to achieve because as an investment property you’re going to want rental income to be able to cover that mortgage as well as any additional cost that you’re going to have to pay in owning that property.

 

Next, you’re going to have to consider the actual interest rate you’ll be able to achieve and that’s generally a function of the loan amount, your financial situation, the rental income you’ll be able to achieve, and obviously where interest rates are overall. There are three major types of interest rates that will be quoted – the first is a tracker mortgage that is what we as Americans might consider a variable rate mortgage – it is a percentage over the Bank of England rate and that can change over time, right now the Bank of England rate is at 0.75% and has been there since August of 2018.

 

So it’s been at those low rates doesn’t really have much more room to go down. Next is a discounted variable rate and that is usually a discount from the bank’s standard rate – so say a bank’s rate is say at 5% and the discount is 2% then that means the rate you’ll be paying is % now if the bank’s rate does change over time your rate will change as well but generally that discounted variable rate is in effect for about two years and then after that if the bank’s rates change your loan amount will change as well or after that it’ll kick right into the bank’s standard rate at the time.

Then there are fixed rates which are set fixed for a period of time and that’s generally four to three, five, or ten years. For Americans that might be surprising that you can’t get thirty-year fixed mortgages which we’re very used to seeing in the States but here it’s really maybe you can get up to 0 years fixed and then after that your rate will convert to the bank’s variable standard rate or if you can look to then re-mortgage the property or refinance as we say as well. If you’re able to get an interest-only rate note that banks might reduce the amount of loan to value you could get.

 

So let’s say you were doing a repayment mortgage that had an element of repayment to it, if you chose to only do an interest only some banks might only lend up to 60% whereas under repayment you might be able to get up to 75% loan to value. So say you had a million-pound property you wanted to purchase and given that rates are historically low some of the best repayment mortgage rates that we’re seeing is a twenty five year term with a 0% loan to value at 1.85% fixed for the first five years and then 4.24% which is the bank’s standard variable rate after that it means mortgage payments of £2,424 per month for the first five years and then increasing to £3,073 a month thereafter but say you wanted an interest only mortgage then in that situation that same bank might reduce your loan to value down to 50% so that means instead of you having to have equity in the 60% loan to value situation of £400,000 if you were doing interest-only you would now have to have equity of £500,000 to bring to the table at the start of the mortgage for the purchase but your initial period payment would only be £504 per month for the first five years and then increasing to £1,766 per month thereafter in this case I would highly recommend that if you are generating excess cash flow from that property you are sure to set that aside so that you do have enough to start repaying that mortgage over time or just really throwing that money at that principle payment which will reduce the amount you have to pay at the end of the term.

 

Given that interest rates are still historically low you might want to lock in for as long as you can the low interest rates at that fixed rate so that when rates start moving up you’ve got a longer period of time where you’ve benefited from that lower interest rate that you were able to lock in today. Make sure to discuss your options not just with your bank but also with a qualified mortgage advisor who can look at the entire market to find where some of the best rates exist. You also do need to be aware that there might be additional cost for arranging that financing, some banks costs may be £1000 for the arrangement fee or there might be additional costs just to set up the mortgage and they can range from 0.5% to % of the costs associated as well as making sure that if there are arrangement fees you’re aware of them and then there might be repayment penalties if you want to pay down that mortgage or pay off that mortgage during that fixed-rate term, so make sure you understand all the costs associated and does that match up with your time rate and time horizon to own that property.

 

The next thing you’re going to have to consider is stamp duty. Stamp duty is a tax on purchase and I’ve mentioned this several times before in some of my other videos so make sure to watch my video on stamp duty to get clear on all the components that you’re going to need to know. For purposes of this video the key thing to remember here is that stamp duty for a second purchase will incur an additional 3% on top of whatever rate it qualified for if it was an owner-occupied rate, since the calculation is quite tier based you’re going to want to use a stamp duty calculator and I’m going to include one in the comments below that you just click on, put that budget in and get a sense of how much stamp duty you might have to pay, as a quick demonstration though let’s say your budget was a £1million using that stamp duty calculator if it was an owner-occupied property the stamp duty associated would be £43,750 but if it is a second property or a buy to let property that amount jumps to £73,750 so again it’s a significant cost that you’re going to want to account for because you’re not going to be able to roll that into your mortgage you’re going to have to add that to the equity you’re going to have to bring to the table at the time of purchase.

 

So have you been considering a buy to let mortgage make sure to leave me a comment below and let me know how the process is going for you.

 

So after you factored the cost of your mortgage or interest rate payment as well as stamp duty the next thing you’re going to have to factor in are conveyancing cost. You’re going to have to hire a solicitor to do the conveyancing which is all the legal and title work associated with making sure that when that property gets transferred to you at Purchase it’s clean and in good hands.

 

Costs associated with conveyancing might depend significantly depending on such variables as even whether you use a London-based solicitor or someone outside of London there’s some shops that are kind of conveyancing factories so you definitely want to be careful because in the case of conveyancing you want a solicitor that is going to work diligently to push your deal through in a timely manner.

 

One of the things I know as an agent is that time kills deals so you definitely want a solicitor that is moving the process quickly but generally speaking the costs associated with the conveyancing process might be anywhere from about £750 to maybe £2,000/£2,500 depending on the size of the property, the purchase and again being really mindful of the quality of the solicitor, the firm that’s representing them, and do they really of know you personally. So you’re going to want to get perhaps referrals on that and if you have any questions of who you might be working with get in touch because we can definitely give you some perspective.

 

Another cost you’re going to want to factor into your budget of owning a buy-to-let property is the service charges or ground rent which are going to be indicative if it’s a leasehold or freehold property I’ve got a separate video on leasehold vs. freehold which explains that whole concept but again the service charges and ground rent are the costs of maintaining that property if it’s in a property or in a building with other units you’re going to want to factor that in because it’s unfortunately not a cost you’re going to be able to factor or pass on to your tenants you’re going to have to incur that directly yourself.

 

Additional costs that you’re going to want to factor in are council tax bills but you’ll only pay that during the period of time that the building or the flat is vacant it is a cost that you’ll be able to pass on to your tenants; in addition there’s building insurance, contents insurance if the flat is furnished; furnishings and other decorative items if you offer it as a furnished property; maintenance and repairs; property management fees that you’re going to pay to a third party property manager especially if you’re overseas; keeping up with notices and post so again there might be costs if you’re sending your post and mail to other places; and when properties are unoccupied and they settle, dormancy issues might arise with pipes, boilers, and other maintenance and repair issues, you’re going to want to set aside funds to make sure when they do arrive that you’re able to cover them; in addition there’s annual compliance issues like gas safety checks; and security and oversight especially say if you own the property in an offshore vehicle, there might be costs associated with maintaining that entity and staying compliant for those overseas vehicles.

 

So in recap in today’s article I’ve given you several key components that you’re going to need to factor in when you buy a property and then own it over time as well.

 

Now let’s review with an actual example on a budget of a million pounds your stamp duty would be £73,750 with conveyancing costs estimated at the high end of £2,500 with a 60% loan to value you’ll need to bring £400,000 of equity then for ongoing costs first are the finance and cost at that 60% loan to value assuming you go for a five year fixed rate at say 1.58% your repayment monthly mortgage is estimated initially for those first five years at £2,422 per month with a £999 mortgage fee, if you have a service charge as a ground rent I’ve estimated those at about £400 a month so to break-even and cover your mortgage you would need rent of approximately £3,000 per month and we need to factor in property management fee of about 7% which is £210 a month paid to the property manager. As a final note ,as an overseas landlord you are subject to the government’s non-residential landlord scheme which is a tax asking that you’re definitely going to want to make sure you’re familiar with and you stay in compliance.

 

Make sure to watch my video on being a non-residential landlord or an overseas landlord to get all those key components that you’re going to want to make sure you’re aware of.

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