Seven things to know before investing in a rental property
Buying a property to let is very different to buying a home to live in. You have to put most of your own tastes and needs aside and focus on finding something that will attract great tenants and deliver the rental returns and capital growth you’re looking for. It is a business and should be viewed as such.
Here are 7 key principles to bear in mind when deciding on your investment property:
- Choose your area carefully
You need to buy a property that matches your own particular circumstances and investment goals, so it’s vital you take the time to research the rental yields and capital growth potential of different areas, not just in today’s market, but the past and the future.
As a general rule, areas that give the best equity growth over time tend to have lower rental yields, and vice versa – it’s rare to get both - and the changes in house prices and rents can be quite different in an area.
For instance, the most recent year-on-year house price data from Rightmove and rental data from Zoopla show that while average prices in London only grew by just over six per cent, average new lets rose by an impressive 17%. The South East was fairly middle-of-the road for both, with prices up five per cent and rents up almost nine-and-a-half per cent.
Then, as well as every area having its own prices and rents, supply and demand levels and trends, there will be micro-markets, where one road or a particular property type can offer quite different investment prospects to another. This is where working with knowledgeable local sales and letting agents and qualified surveyors can be invaluable.
Think about existing rental competition and demographics, as that will determine the type of tenants you’re likely to attract and level of rental income you can charge. Look for areas that have special appeal for specific demographics - where are the good schools for young families? Where do the students want to live? What are the transport links like for professionals who might need to commute?
- Consider other regional variations
Local authorities can have quite different approaches to things like enforcement and rent controls, so it’s worth finding out how ‘landlord friendly’ the council is in the area where you’re considering investing.
It's also vital you know about and comply with the specific laws and rules that apply to your area and type of let – and note that in England these can vary significantly from one local authority to another.
For instance, depending on where in the UK you live and the type of property you’re letting, you and your property may need to be licensed or registered. Your local council will be able to advise you exactly what requirements are in effect, but here’s a brief national overview:
England
- Large HMOs (where there are five or more occupants forming more than one household) must be licensed
- Local authorities have the power to introduce their own selective and additional licensing schemes, meaning they can require both smaller HMOs (three or more occupants) and any rented property to be licensed
And when choosing the area, a major consideration is whether to buy close to where you live. If you plan to be a hands-on landlord, it’s advisable to invest within half an hour of your home, so you can easily get to your property when you need to. However, there may be more lucrative property investment opportunities further afield, so make sure you factor in your time and consider using a letting agent to manage the property for you.
- Research how much rent you’ll be able to charge
Before buying a property, you need to know the likely rental income, so you can work out the yield and likely profit. That will tell you whether a property is going to be a good return on your investment and whether you will be able to secure a mortgage on the property which can boost your investment returns.
To determine how much rent you’ll be able to charge, research the average rent for different types of property in your area and think about how yours compares. Does it stand out from the competition? And if properties like yours are letting quickly, that indicates they’re probably getting the asking rent.
Then, to work out the yield, divide your annual rental income by the property value and then multiply it by 100. This will give you your gross yield percentage. To get the net yield figure, deduct your annual expenses from the rental income and divide the profit by the property value.
Once you’ve got these figures, you can compare the likely property returns to local and national averages, as well as other types of financial investment.
- Consider the type of property and trends in the market
The type of property and the kind of tenants you choose are interrelated and you’ve got to balance potential returns with ‘lettability’. For example, a four-bedroom house with a large master bedroom and ample storage is more likely to suit a family and may give slightly lower rental returns but better capital growth over time. Meanwhile, properties that have equal-sized bedrooms and a large communal area will appeal to groups of friends or student tenants and this kind of let tends to give excellent rental yields but slower capital growth.
The key to success in buy to let is keeping your property tenanted with a rental income that at least covers your monthly costs, so you’ve got to know about tenant trends. What is the current demand in your area and, importantly, how might that change in the future?
During the pandemic, many media reports suggested that both tenants and buyers were looking for larger properties with outdoor space and moving from city centre flats to more rural locations. Demand for houses has risen, while flats have stayed fairly flat and demand for HMOs has fallen slightly – understandable, when social distancing has been so high on the agenda. However, since then, some people have started to return to cities, so these trends may change again in the coming months and years.
So, when you’re looking at properties, consider how flexible the accommodation is – could the property work well as a multi-let (HMO) today and a family let in the future if preferences shift?
Note that multi-lets are a very different type of rental to single family lets. Take a look at our separate guides to student lets, which includes the specific rules and regulations that apply to all HMOs.
- Choose tenants carefully
The type of tenants you choose to let to will affect decisions about the location and type of property you buy, how it will be decorated and will influence the amount of rent you’ll be able to charge. Having good tenants is also critical to a successful landlord experience, which is why tenant referencing is so important.
If you’re investing in a buy to let in a town or city with a high student population, it’s well worth considering student lets. Despite having a slightly negative reputation, students can make ideal tenants, with high demand and predictable rental cycles.
- Consider buying a property that allows you to quickly build equity
There are two ways to give the equity in your investment property an early boost. Firstly, you can buy something that needs work and increase its value by renovating and/or extending. Although you’ll need to take into account the time and money it will take to complete the works, you may be able to charge a higher rent for a freshly renovated, well presented property, which should need relatively little spent on maintenance for some years, especially if it has an EPC rating of C or more, so attracts lower energy bills.
And, as long as you plan and budget properly, you should be able to increase the property’s value by more than the works cost.
The second way to gain instant equity is to buy at below a property’s ‘real’ market value. These kinds of deals are not necessarily easy to find, but if a seller is motivated – i.e. a quick sale is more important to them than getting full price – you may be able to negotiate a discount. Having this extra equity cushion not only increases your returns, but it protects you against fluctuations in market prices.
- Factor in all costs, including insurance
When working out whether a property is going to be a good investment, you obviously need to factor in all your costs – the regular monthly outgoings, annual costs and periodical larger jobs. That will allow you to plan and budget ahead properly, so you know ahead of time how much profit you should be making and can avoid getting any nasty financial surprises.
Insurance is one of the costs you will need to subtract from the return on your investment, so it’s worth knowing what it’s likely to be before you invest. And, if you’re new to buy to let, you need to know that rental properties require specialist landlord insurance, due to the increased risks associated with letting – regular homeowner insurance will not cover you.
For more guidance on investing in buy to let, contact Toby Slade
