Successful Property Letting - David Lawrenson

Also in Right Way

Getting the Builders InInternet MarketingThe Right Way to Start Your Own BusinessGoing Self-Employed: How to Start Out in Business on Your OwnBook-Keeping the Right Way

www.constablerobinson.com/rightway

Property Letting-pages 28/2/11 12:44 Page 2

SUCCESSFULPROPERTYLETTING

HOW TO MAKE MONEY INBUY-TO-LET

David Lawrenson


Constable & Robinson Ltd3 The Lanchesters

162 Fulham Palace RoadLondon W6 9ER

www.constablerobinson.com

First published in the UK 2005

This new completely revised and updated editionpublished by Right Way, an imprint of

Constable & Robinson, 2011

Copyright © David Lawrenson, 2005, 2011

All rights reserved.This book is sold subject to thecondition that it shall not, by way of trade or otherwise,be lent, re-sold, hired out or otherwise circulated in anyform of binding or cover other than that in which it ispublished and without a similar condition including thiscondition being imposed on the subsequent purchaser.

A copy of the British Library Cataloguing in PublicationData is available from the British Library

ISBN: 978-0-7160-2275-6

Printed and bound in the EU

1 3 5 7 9 10 8 6 4 2


DEDICATION

To Dagmar Svehlik, my partner, for her fantastic love andsupport, and to Alex, our son.


ABOUT THE AUTHOR

After university and his MBA at Cass (formerly CityUniversity) Business School, David Lawrenson worked in thefinancial services industry as an internal consultant and projectmanager.

In 2002, he left to become a full-time property investor.Then in 2005, the first edition of Successful Property Letting –How to Make Money in Buy-to-Let came out and became theUK’s top-selling property book.

Lawrenson is now in constant demand as a writer and mediacommentator on buy-to-let issues. He is quoted regularly innational newspapers like The Times, Independent and DailyTelegraph and he writes for many property magazines and buy-to-let websites. He is a regular speaker at trade shows and forpublic and private organisations and trade associations and runsa thriving consultancy business which helps banks, buildingsocieties, investment funds, letting agents, local authorities andhousing associations with their products and services for thebuy-to-let and landlord markets.

Lawrenson also has a low-cost seminar programme and aone-to-one consultancy service for people wishing to get intobuy-to-let for the first time as well as for more experiencedinvestors. His website and blog are at www.LettingFocus.com andDavid can be contacted at [email protected].

7


CONTENTS

1. An Introduction to Property Investment 13

Why you need this book, 13;A brief history of residential property letting, 14; ‘‘Landlord’’ or‘‘Property Investor’’, 15; How property differs fromother types of investment, 16;When to buy? Goodand bad times in the property market, 19; Meetthe people who want your money, 20; Is it for you?What kind of person makes a successful landlord?,21; How much should I put in property?, 25.

2. Easy as ABC:The Simple Economics ofProperty Letting 29

Income and capital growth, 29; How to calculate thetrue income from your property, 30; How to calculatecapital growth, 40.

9


3. How to Find the Right Property 43

Location, location, location: How to choose the rightarea, 43; How to choose the right kind of property,46; Which is best: Leasehold or freehold? Whatquestions should you ask?, 50; Whether to buy anew or old property:Things to consider, 55; How tobuy in new developments and off-plan (and avoidthe pitfalls), 56; How to buy at auction, 65; Doeseverything work? Things to check before you buy, 69;How to negotiate successfully, 70; Buying belowmarket value (BMV), 72.

4. Ready to Buy: Finance and the Legal Stuff 77

How to arrange your finance, 77; How to make theconveyancing process work for you, 84.

5. Refurbishing and Preparing Your Property 89How to deal with builders, 89; How to deal witharchitects and surveyors, 93; How to get planningpermission and building regulations approval, 94;How to decorate and furnish, 95; Legal regulations:Furnishing, gas safety, electrical, EPCs, HMOs anddisability, 100; How to get the right insurance cover,106; Keeping everyone informed:Telling people who‘‘need to know’’, 109.

6. How to Get the Tenancy Agreement Correct 111The different types of tenancy, 111; The assuredshorthold tenancy (AST) agreement:What’s in it?,114; What tenants need to know: The emergencyand maintenance ‘‘House Guide’’, 118.


7. How to Find a Good Tenant 123

Letting to friends . . . and why you shouldn’t!, 124;Getting your existing tenants to find new tenants,124; Letting to a social housing organisation, 124;Using a letting agent, 125; How to find a goodletting agent, 131; How to find a tenant yourself,134; How to screen potential tenants and takereferences, 142; Final steps and what happens onmove-in day, 162.

8. How to Manage the Tenancy 167

How to manage the tenants, 167; How to managehousing benefit/local housing allowance tenants,168; How to manage a letting agent, 170; How tomanage maintenance, 173; How to manage aproblem neighbour, 180; How to end your tenancy,183; Tenancy deposit schemes, 193; How tomanage utilities and council tax, 195; How tomanage paperwork, 196; How to keep up-to-date,197.

9. Difficult Tenants and How to Deal with Them 199

The sorts of things that can go wrong . . . and howto deal with them, 199; How to evict a tenant, 202;How to serve a notice, 204; Possession proceedings,205; How to make a claim for money owed, 207;Evicting squatters and Rent Act tenants, 210;Whatever you do, don’t harass!, 212;What to do ifa tenant dies, 213; How to solve housingbenefit/local housing allowance problems, 214.


10. When it’s Time to Sell 217

What’s the best time of year to sell?, 218; How tosell successfully through an estate agent, 218; Sellingat auction, 220; Selling it yourself, 221;Why it paysto be prepared, 222.

11. Tax 223

Completing the tax return, 225; All about incometax, 225;All about capital gains tax (CGT), 230;Tax on UK and European Economic Area (EEA)holiday lets, 238;Tax on other foreign holiday lets,240;The rent a room scheme, 240;All about stampduty land tax, 241; Investing via a propertycompany, 244;The death of ‘‘SIPPS’’ and the birthof ‘‘REITS’’, 244.

11. Jet to Let: Diversifying Your Property Portfolio 249

UK and EEA holiday lets, 249; Investing inproperty abroad, 251; Things you need to know,255;Where to buy and what to buy abroad, 257;All about taxes on foreign property, 259; Otheropportunities, 261.

Appendix 1:A Sample Assured Shorthold TenancyAgreement 263Appendix 2: Useful Contacts 277

Index 283


1

AN INTRODUCTION TOPROPERTY INVESTMENT

Why you need this bookThis book is about how to make a success of propertyinvestment through letting residential property. I will tellyou what you really need to know to make money in thebuy-to-let market and talk you right through the residentialletting business.

This book will be of interest to people who arethinking of becoming landlords for the first time as wellas those with more experience. It will tell you where tobuy, what to buy, how to spot locations that are on the up,how to buy at auction, below market value and “off plan”,how to arrange finance, how to find good tenants andhow to look after them.

If you need to do work on your property, it will tellyou how to hire builders and architects, how to dealwith planning and building regulations and how tofurnish and decorate your property.

You’ll also learn all you need to know about yourlegal responsibilities as a landlord, what to do if things

13


go wrong, how to minimise tax on your rental profitsand how to buy abroad.

When you’ve read this book you’ll know how to let outproperty successfully, either by yourself or with the help ofan agent whilst keeping your costs and time to a minimum.You’ll know what the big risks are, what sort of things tolook out for and how to avoid disasters.You’ll know how tokeep your tenants happy and the rent rolling in!

This book is kept regularly updated to reflect thecurrent conditions in the property market.

A brief history of residential property lettingYou’ve probably heard about people who have made afortune out of property investment and about a fewpeople who have lost money too.The subject comes up ata lot of dinner parties.And the news is full of it too.

These days, there is always some survey or other onhow house prices are moving, how long it’s taking to sellproperties, how rents are doing or what the ratio of thisto that or the other is. In the British Isles we seem to beobsessed about it. And now that some of us are busybuying up properties abroad, we’ll no doubt have toworry about house price to earnings ratios in Croatia andBarbados too! However, property hasn’t always been theobsession it is today.

In the old days, people lived with their parents for along time and moved only when (or after) they gotmarried.The proportion of people who owned their ownhome was much less than it is today. People tended to rentand if they bought property at all it was at a later stage inlife and only after years spent building up a savingsaccount at the local building society.

Mortgage loans were hard to obtain and small, relative

14 An Introduction to Property Investment


to the value of the properties they financed.The “flexible”labour market, where employers could make peopleredundant because their companies weren’t makingenough profit hadn’t yet been invented.

In the housing shortage after the Second World War, afew nasty landlords emerged who overcharged and usedintimidation tactics against their tenants. One landlord, acertain Mr Rachman, led to the word “Rachmanism”becoming forever associated with particularly unpleasantlandlord practices.

In response, the Government typically overreacted andpassed laws that set up what were called Rent Acttenancies.These gave tenants a protected low rent but itbecame difficult if not impossible for landlords to get theirproperty back. Faced with low returns and little flexibilityhuge numbers of landlords simply withdrew from themarket, resulting in the proportion of properties in theprivate rented sector falling from 50 per cent in 1945 toless than 10 per cent by the mid 1980s and a shortage ofhomes to let.Ultimately, this started to harm the economybecause people found they couldn’t move to jobs in otherareas because there were so few homes available to rent.

Finally the Government saw sense and in 1988 and1996 passed the Housing Acts which made it much easierand quicker for landlords to reclaim possession of theirproperty at the end of a letting.The buy-to-let mortgagefollowed and the proportion of UK housing stock that isprivately rented is now near to 15 per cent (and muchhigher in some urban areas.)

“Landlord” or “Property Investor”The word “landlord”has some negative connotations and Isuppose this goes back to the medieval times of Lords and

An Introduction to Property Investment 15


Serfs but it was made worse by the activities of Rachman.There are a few rogue landlords still out there today.One inparticular is especially notorious, but as he seems to spendfortunes suing people,I won’t give my publisher (or myself)any sleepless nights by naming him. In general, though,successful landlords these days are ones who look after theirtenants and treat them with respect.As a result, the negativeassociations of the word “landlord”are dying away too,so I’llstick with it throughout this book.

How property differs fromother types of investmentWith property, unlike many other kinds of investments,you’re the one in control, not some anonymous fundmanager in the city.You can walk past your property andactually see your investment so you are immediately moreconnected to it. I wouldn’t go around hugging the wallsof your property while the tenants are there, but I’m sureyou understand what I mean when I say you can start tolove property!

Property also provides something we all need – shelterso there should always be demand for it. With property,you can sell it whenever you want, which you can’t dowith a pension. Unlike a pension, you can also bequeathit to your heirs when you die.

At this point I’ll admit to being cannier at investing inproperty than I am in the stock market. More than onceI’ve bought a share, only to see the price collapse. I findthis somewhat baffling because surely, if the Report andAccounts of a company have been read by a good manyclever people (including highly paid fund managers) andthe company shares are, say, one pound, then how theycan fall to a penny over the course of just one year (or



even less time) is a mystery. Maybe the Report andAccounts are meaningless!

Of course, in the stock market, the risk is that theproducts or services of a company can go out of fashion,be replaced by new technology or simply end up beingmanaged by people who lose all the company’s moneyand then get a big payoff for doing so!

The problems don’t stop with individual shares either.The audit and regulatory bodies have clearly failed toprotect people from endowment and pension mis-selling.Add to this, the split capital trusts scandal and low returnson shares in general and it’s easy to see why property isnow seen as a good way of providing a reliable secondaryincome or a retirement fund.

The fact is that with property, if you do yourhomework and check out the location and the localtenant market, you’ll know a lot more than you can everlearn about any company in any published source.

If you combine letting property with a day job, you’llhave the satisfaction of knowing that if your boss suddenlydecides your face no longer fits you’ll still have theincome and capital from your property to fall back on.This can give a great sense of security.

If you’re a full-time landlord, you’ll have an incomestream that’s reliable and you can choose how and whenyou work.Want a lie in? Then have one.You’re the boss!

Now that everyone and his dog are talking aboutproperty it’s easy to imagine that the market is beingswamped with too many developers and too manyproperties to rent. And as salary to mortgage multiplesbecomes more stretched, the fear is that house price risesmay level out or fall a bit.

However, if we step back and look at the big picture,



we can see that an increasing population and a shortage ofhouses, including “social housing” are forcing prices up.The growing population is driven not so much byinternal growth but by immigration. Also, divorce meansthat some people are tending to live in smaller units withthe number of one-person homes set to continue to growmarkedly. At the same time there has been a recent bigincrease in the number of families who rent from privatelandlords. Housing supply has failed to keep up with thesechanges and demand for housing, especially in Londonand the South-East, is outstripping supply.

It is clear that the UK needs a massive house-buildingprogramme to close the gap. The hopes of theGovernment to meet housing demand by streamliningthe planning system have worked only partially and inrecent years tough credit conditions have made it hard forbuilders to get funds to build and borrowers to getmortgages.

So, a continued lack of housing seems to suggest that abig fall in property prices like the one between 1989 and1994 is unlikely – and whilst first-time buyers are clearlymore stretched today, houses are still affordable in manyareas, especially for those lucky first-time buyers able torely on help from their parents.

In the rental market the trends to more job flexibility,temporary workers, more students, more migrantworkers, less council/social housing and increasingdivorce rates are all factors that should lead to increasingdemand for rental accommodation. If there is no signifi-cant growth in the number of houses built, then theoutlook for rents should be up too.

Changes in government tax policy may also boostproperty. To encourage more rented housing, the



Government has bought in a new form of tax efficientproperty fund based on so called “real estate investmenttrusts” or “REITS” which have proved popular in othercountries.

And with a diminishing stock of council housing theGovernment is paying an increasingly hefty housingbenefit bill – a lot of which ends up with privatelandlords.

When to buy? Good and bad times in theproperty marketThere are undoubtedly some times that are better thanothers in the property market. However, even in bad timesthere are still opportunities for the experienced propertyinvestor. Let’s take a look at a time that is probablyregarded as pretty dire: in spring 1989, house pricespeaked over most of the UK and started a decline thatwent on until 1994.

Nevertheless, even then, there were certain areas andcertain types of property that didn’t fall in value toomuch.This was usually due to local factors – a new road,tube, railway, airport or employment opportunities. Rentsactually went up over the period 1989 to 1994, so if yougot the right property in the right place, this was still agood time to invest.

The skill of the property investor and landlord is inidentifying these local opportunities and acting on them.To do this you need local knowledge and I shall saymore about how to do this in Chapter 3. Property doesindeed have risks but, if you do your homework,these risks are manageable. To some extent risks withproperty are reduced because the market has a naturalcompensating mechanism in which any weakness in



house prices is counterbalanced by strength in rents. Letme explain.

When house prices fall, as they did in 2008 and 2009due to the effects of a tightening of mortgage availability,first-time buyers tend to stay on the sidelines and rent,hoping to buy at cheaper prices later.This tends to pushup rents. At the same time, nervousness among somehome-owners and inexperienced landlords (and harshcredit conditions) may lead them to sell their propertiesand rent instead. This can have the effect of reducingthe number of properties available to rent at the sametime as further increasing demand for rented accom-modation.The higher demand for rentals pushes up rentsand compensates for falls in house prices. Indeed,this was the picture in the UK between 1989 and 1994,a period of generally falling house prices but risingrents.

Conversely, when house prices rise and look set to risefurther, first-time buyers (who might otherwise haverented but are fearful of missing the boat) enter themarket to buy property and the opposite effect happens.With less demand for rented accommodation, rents maytend to be static or fall but the price of property shouldgo up.This was the picture in the late 1990s and into thestart of the new millennium.

Meet the people who want your moneyAs interest in property as an investment has grown, so toohas the number of players involved in the business.Thereare mortgage lenders, mortgage brokers, surveyors, solici-tors, letting agents, freeholders, managing agents, devel-opers, property syndicates, buying agents, consultants, andlast, but not least, the taxman. The thing they have in



common is: they all want your money!There are even people who give seminars on letting

property, where they aim to teach you all you need toknow in a weekend in exchange for a few hundred (oreven thousand) pounds and the opportunity to join theirinvestment club, where you’re supposed to be able to getbig discounts off new developments. Then there arebuying agents who’ll purchase and kit out investmentproperty for you.

The standard of performance and value for money ofmany of these players is variable (and some are little betterthan cowboys) and I’ll comment further on each of themthroughout the book. I’ll also tell you how to get the bestout of them, where you can find good advisers and howyou can minimise the amount of money that you paythem.

For now it is worth your being aware that most aspectsof residential property investment advice are not regulatedwhich makes property a very attractive area of business tothe charlatan looking to separate naïve investors fromtheir savings.You have been warned.

Is it for you?What kind of person makes a successful landlord?The sort of person who makes a good landlord issomeone who is sceptical and enquiring and has goodpeople and communication skills. They are usually goodadministrators and, above all, they really love the propertybusiness and are prepared to take some risks.

Successful landlords question everything they hear andare prepared to do their own research. So if a developeror a consultant at a seminar tells them that his newdevelopment of 10,000 identikit flats in Liverpool is



going to be a fantastic investment, they don’t take thisat face value.

If a director of a big bank says the housing market isgoing to grow rapidly, then be aware he has a vestedinterest in saying this, i.e. to sell more mortgages. Justbecause he is Chief Executive of an FTSE 100 companyand earns more in a week than you make in a yeardoesn’t mean you should listen to him. Similarly, if aninvestment bank says house prices will collapse, askyourself could they just be saying that in order topersuade people to invest in stock market based fundsinstead?

Be sceptical of what you learn at consultants’ seminars.Most people say they learned nothing that they couldn’tlearn from reading a book. Generally they just got a hardsell to invest in new developments, the idea being that thesyndicate used investors’ money to win supposedly bigdiscounts on new-build properties, source non-existent“below market value” stock or buy “soon to-be-refurbed”properties on “no go” estates. Probably the biggest losersare the many novice investors who bought off-plan new-build flats on big developments from syndicates mainly,though not entirely in inner cities in the English Northand Midlands, who have seen the values of their proper-ties collapse and the flats hard to let out.

So beware.You can do well in property but it’s simplynot the case that you can make a million in a year withouttaking what to most people are unacceptably large risks.People who say you can do this are talking nonsense.

A lot of new-build off-plan schemes these days are fordevelopments abroad. The consultant or developer mayeven pay the cost of the airfare and transport to thedevelopment and use high-pressure selling techniques



with lots of free drink to get otherwise intelligent peopleto part with their money.

The hard fact is that you must be prepared to do somework. Not a lot of work, but some work nevertheless!Listen to what people say, but do your own research toobefore committing to anything. Keep in mind thatcurrently there is no protection under the FinancialServices Act for people who invest in property or viaproperty syndicates. So be careful.

It helps to be good with people as you’ll need to formgood relationships with your tenants and anyone whodoes work for you. I don’t mean that you should be theirbest mate. Far from it! But you must be professional andcourteous as well as firm and fair.

When dealing with tenants, there is no point beingmean and arguing over small things or small amounts ofmoney. As in life, if you treat tenants with respect they’llrepay you in kind. The same applies for tradesmen. Paythem promptly because, if you don’t, you can’t expectthem to rush out when you really need them.

It’s important to be a clear communicator. Prospectivetenants must know exactly what they’re getting with theproperty they’ll be renting.They must understand whenthe contract starts and what their responsibilities are underthe tenancy agreement. If you use letting agents, theyshould understand what you expect of them too. Thesame applies to builders and decorators.You cannot be tooclear!

It helps to be organised and have a good filing systemto keep track of income, costs and repairs.Things shouldbe fixed quickly and phone calls returned as soon aspossible.You don’t need to do the actual work yourself orbe particularly practical. I’m not, but I know just enough




Case studyIn 2003, more than one thousand people sufferedmassive losses after being duped by a property invest-ment company promising ‘guaranteed’ annual returns of15 per cent. The investors, who included accountants,lawyers and doctors, handed over five and six figuresums after being seduced by the company’s brochures.The firm used adverts in publications such as theFinancial Times to tell investors they could make afortune buying cheap properties in the north of England,which the company would refurbish and let out to ‘socialhousing’ tenants. The company would supervise all therefurbishment, find the tenants and even collect the rent.Investors would sit back and wait for the money to roll in.If only life were so simple. The company pulled in morethan £100 million but much of the refurbishment workwas never carried out and the tenants nevermaterialised. It turned out that investors had boughtderelict, boarded-up houses which were worth far lessthan they had paid for them. Some were uninhabitableand worth less than £2,000. The firm was closed downby the DTI. Most of the investors were from the south-east of England and had been persuaded that the northwas ‘bursting with investment opportunities within thesocial housing sector’. Amazingly, most of the investorshadn’t visited the areas or seen the properties at all. Thisis not a unique story – even in 2011 we continue to seeproperty companies going bust and lots of “investors”losing their shirts.


to avoid getting ripped off by tradesmen.Finally, you must like property. So, if houses bore you

stiff, you’re probably better off doing something else. Ifreely admit to being an addict and, like any successfullandlord, I find it impossible to walk past an estate agencywithout looking in the window at house prices, rentallevels, etc.You should be the same.

Follow the six commandments set out below and you’llmake a success of property investment:

1. You must buy the right type of property at the righttime at a good price in the right location.

2. You must do all you can to minimise vacant periodswhen the property isn’t let.

3. You must take care vetting tenants to avoid having abad one.

4. You must fix things promptly and cost-effectively.5. You must be good at dealing with administration – in

particular, you must keep account of all your incomeand costs and have a proper filing system.

6. You must be able to spot when someone isn’t beingstraight with you.

I’ll explain how to get these things right in the course ofthe book.

How much should I put in property?At a recent speaking engagement I was asked, “Howmuch should I put into property investments?”

Unless you’re a highly diversified property investor interms of the number, type and locations of properties youown, I would caution against having more than, say, 50 percent of your money in property. However, there is no



ideal percentage. How much you invest in property iswhatever amount you feel comfortable with, whichdepends on your own attitude to risk.

It’s possible to invest in the UK housing marketthrough collective or unitised funds or through otherfunds that track house prices. This will give you someexposure but it won’t make any real money because, ifyou are to have real success, you’ve got to get involvedyourself, not give it to a fund manager who may turn outto be useless and will certainly charge a hefty fee.

Investing in property is not without risks.The biggestrisk in property is a downturn in the economy.This couldhave the effect of making house prices and rents fall,increasing interest rates, increasing tenant default andcutting or reversing the flow of inward migration into theUK – thus reducing the pressure on housing.Another bigrisk is that the Government could change the wayresidential property investment is taxed, making it lessattractive compared to other investment types.

There is also a threat from big City funds which havestarted to invest in the private rented sector by buildinghuge new purpose developments exclusively for privaterental – thus increasing the competition for privatelandlords. (Some city funds use me as a consultant in thisarea so I know there is genuine interest, though up tonow most have kept their money in their wallets andinvestment has been limited so far.)

At the moment, most of your running costs, includingthe interest on loans to buy properties to let, aredeductible against your rental income.This is, of course,one of the greatest attractions of buy-to-let as it meanssomeone else is paying off your mortgage. The risk thatthe Government could change this is very low – but it is



a small risk, nonetheless.This book is about managing these and other risks and

making profit at the same time. Some risk, however, willalways remain – that’s the price of the big rewards. If youdon’t like risk at all you should put this book down nowand keep your money in the building society.

Any comments or suggestions on this book are appre-ciated. Please feel free to mail me.You can contact me byemail via my website www.LettingFocus.com where Ialso provide buy-to-let advice and consultancy for organ-isations and individuals as well as writing a blog andreviewing discounted products for landlords.

NoteTo avoid saying “he” and “him” instead of the clumsyphrases “he/she” and “him/her”, I simply use “he”/”him”to refer to both men and women.



2

EASY AS ABC:THE SIMPLE ECONOMICS OF

PROPERTY LETTING

Income and capital growthHow do you make money out of property investment?Well, it’s quite easy.You can make it by the property goingup in price (what is called capital growth) and you canmake it by earning more in rent than you spend in costs(i.e. income).

Sounds simple doesn’t it? The problem is that a lot ofpeople make the mistake of overlooking all the costs oftheir investment and completely forget to account forthings like running costs, the cost of their own time andthe cost of using their own money. Property programmeson TV make these same mistakes too.

Many people who are new to investing in propertyseem to forget to budget for the cost of maintaining theirinvestment properties at all or, if they do, they proceed inthe mistaken belief that the costs of maintaining aproperty which is let out will cost no more thanmaintaining their own property. It won’t!

29


How to calculate the true incomefrom your propertyWhen people talk about property, they often talk aboutthe “property yield”. And yet, this term often meansdifferent things to different people, so when you aretalking about yield, even if you know what it means, it’salways useful to check that the other person has the sameunderstanding.

So, what is yield? Yield is just another way of expressingthe “income” on a property relative to the value investedin it.Very simply it’s just the total amount of rent, less therunning costs of the property, divided by the total valueinvested in the property including buying costs. So if yourannual rent is, say, £18,000 a year, the running costs are£2,000 per year and the total value of the property is£250,000, then the “yield” is calculated as:

Yield =Total Rent minus Running Costs/Current Value of

Property

In this case it is:£18,000 – £2,000 running costs/£250,000 =£16,000/£250,000 = 0.064

or, expressed as a percentage, 6.4 per cent – quite a decentyield!

Generally, it’s that simple, but even with something sosimple there are some potential snakes in the grass as Ishall explain.

Step 1: Estimating the rent and allowing for voidsIf you haven’t yet bought a property, how do you workout what the rent will be? Well, you could look in the

30 Easy as ABC


local paper to see what rents are being charged forequivalent properties or you could ask a letting agent.Unfortunately, both approaches may lead you to believeyou can get a higher rent than is achievable for apermanently let property with no voids.

I’ll explain. For my properties, the rents I achieve aretypically 5 to 15 per cent less than those being asked byother landlords and letting agents for the same type ofproperty.This is not because I am a bad businessman. It’sbecause I set my rents so my properties are always fully letwhereas my competitors don’t. I know this, becausesometimes I pose as a tenant and go and look at otherproperties. (It’s always good to check out the competi-tion!) Six times out of ten, the previous tenants have leftand the properties are standing empty and burning uptheir owners’ money.

I don’t doubt that sometimes other landlords andletting agents do eventually let their properties.Very oftenthough, they’ll have had to drop the rent. Even wherethey achieve high rents they may have been forced toagree improvements such as redecorating or buying newfurniture which will hit their profit.

The period of time a property is not let, the “voidperiod” in landlord’s jargon, is extremely costly. In theexample above, the annual rental was £18,000 or £1,500per month. If the property is unlet for a month, then theannual rent falls from £18,000 to £16,500 and the effecton the yield would be to reduce it by 0.6 per cent.

In fact, the situation is worse because, with an unletproperty, running costs are likely to be higher because youmay have to pay for council tax and utilities too. Also, ifthe property is furnished and empty, your insurancepremium could well go up as well.

Easy as ABC 31


You may get lucky and get a tenant to pay top dollarwith no gap between tenants, so no void period at all.Your super new tenant might not even demand a new bedor cooker for his top dollar rent! But he’ll probably findout soon enough he’s paying a premium rent and chancesare he will become more demanding and ask more ofyou! He may be more likely to leave after a short periodand you’ll have the costs of remarketing to bear.

If instead, you offer to let at a rent just below themarket average, you’ll have more tenant demand and beable to cherry pick the best tenants and those who canmove in just after your previous tenants move out.You’llhave no void period, you won’t need to throw in extras toget the new tenant and you’ll have someone who is happyand will stay longer because he knows he’s paying a fairrent.

This isn’t about being a “nice landlord”. It’s just goodbusiness, because those voids, additional things thrown in“free” to attract a premium rate tenant and, most of all,your time have to be paid for somehow!

Step 2:Work out your running costsThe running costs of renting out property include intereston money borrowed, letting agency fees (where a lettingagent is used), ground rent and service charges (where theproperty is leasehold), insurance premiums, replacementof fixtures and furnishings, general maintenance includingan annual gas inspection (where gas appliances arepresent), Energy Performance Certificates, deposit protec-tion, advertising, legal expenses, membership of landlordorganisations, phone calls, travel costs and the cost of yourtime.Apart from the cost of your own time, all these costscan be deducted from rental income for tax purposes.

32 Easy as ABC


LETTING AGENCY FEES

These are typically about one month’s rent plus VAT forfinding a tenant including doing reference checks, signingagreements, dealing with utilities and doing the check-in.Landlords with large portfolios may get lower chargesthan this though fees in London could be higher.Typically, money is deducted from the tenant’s firstmonth’s rent and deposit and before any residual moneyis paid over to the landlord.Also, some agents “try it on”by trying to re-charge the fee each time the property isre-let to the same tenant. If the agent provides manage-ment services too, you’ll need to add another 3 to 5 percent plus VAT. Chapter 7 has some good advice on howto negotiate these costs down.

GROUND RENT AND SERVICE CHARGES

If your property is leasehold you’ll have to pay groundrent and service charges. Obviously, the cost variesenormously between properties; however, it’s alwayscharged in advance. For flats, the buildings insurancepremium is usually contained within the service charge.

INSURANCE PREMIUMS

Buildings insurance premiums vary depending mainly onthe size of property and its location.You must have it andshould budget about 3 per cent of the rent for it.Wherethe property is furnished, contents insurance is also amust. Allow for between 1 and 3 per cent of the rentdepending on the level of furnishing. For properties withfew furnishings you could opt to cover damage by havinga sufficiently high deposit.

Some landlords take out separate cover against a tenantdefaulting and the cost of doing this is typically 2 to 4 per

Easy as ABC 33


cent of the rent. In addition, you can also take out insur-ance against things going wrong with plumbing, drains,gas, electrical appliances or whatever. I wouldn’t botherwith the latter for the reasons explained in Chapter 5.

REPLACEMENT FIXTURES AND FITTINGS

Build in an allowance for replacing furnishings. Howmuch furniture you provide will depend on the type ofmarket you’re pitching at. In Chapter 5 I’ll explain howto figure out, before you even buy a property, how muchfurnishing (if any) you need to provide.Allow for the factthat furnishings, whether white goods like washingmachines or soft furnishings like sofas and beds, will wearout faster with tenants.

GENERAL MAINTENANCE

In a property which is let out, more things needmaintaining more often than they do in a private home.The main things that go wrong are boilers, pipes,overflows, drains and the like. As long as young peopleprefer to study Media Studies rather than Plumbing, therewill be a shortage of skilled plumbers and the cost of theseservices will continue to rise well ahead of the rate ofinflation. In Chapter 8, I’ll show how to keep main-tenance costs in check, but you should expect costs to be20 per cent higher than you would in a private home. Gasappliances must be checked by a registered gas engineerso you should add an additional £50 to the annualrunning costs for each gas appliance in the property.

ADVERTISING

If you don’t use an agent, you will need to advertise fortenants. In many media you can advertise for tenants for

34 Easy as ABC


free. However, if your property is more up-market, youmay have to pay to advertise in the sort of publications orwebsites that your intended tenants read. Currently, youcan get your property advertised on all the main portalslike Right Move via landlord letting sites for about £50or £60. See the Useful Links at LettingFocus.com

LEGAL AND OTHER REGULATORY EXPENSES

If you follow the instructions in Chapter 7 and properlyreference check potential tenants, you’ll be very unluckyto get a tenant who doesn’t pay his rent and needs to beevicted. However, if that does happen, the good news isyou won’t need to employ a solicitor or lawyer. Lawyersearn quite enough money already and you can do it all onyour own without having to use their services. I’ll explainhow to in Chapter 9.The bad news is it takes about fourto six months to get rid of a really bad tenant so it’s wiseto budget for about half a month’s rent per year to coverthe cost of unpaid rent of a bad tenant, just in case.

Other regulatory type costs include an EnergyPerformance Certificate (once every ten years and costingabout £50), tenancy deposit protection in an insuredscheme (about £30), landlords’ registration (Scotlandonly) and HMO licensing (if applicable). These are allcovered later in the book.

LANDLORDS’ ORGANISATIONS

For less than £100 a year, you can join a landlords’ organ-isation and get all the news including any legal updates,helplines in case things go wrong, local meetings, access toup-to-date tenancy agreements, discounts on websiteswhich advertise property, and money off buildings insur-ance, tenancy deposit schemes, energy performance

Easy as ABC 35


certificates and building materials.Two of the biggest arethe National Landlords Association and the ResidentialLandlords Association. (See Appendix 2 for a list of themain associations.) And check out my own blog atwww.LettingFocus.com for occasional offers.

PERSONAL COSTS

Allow for the cost of your own time plus incidentalexpenses such as phone calls, travel costs, stationery andcleaning materials.

Step 3: Calculate how much your total investment will beIf you are considering whether to invest in a property,your investment will be more than just the basic cost ofthe property.You should also include all costs associated withthe purchase, including mortgage fees, survey and legalcosts. In addition, include any development, decorationcosts and repairs you must do before you first let it out. Ifyou are furnishing the property, you should include thesecosts too.

Also don’t forget to count the cost of the moneyinvested in the property from the time you bought it towhen you first let it.This will be whatever interest yourtotal investment could have earned elsewhere for the timefrom completion to first let as well as whatever interestyour deposit money could have earned from exchange tocompletion.

In the previous example, where we were buying aproperty for £250,000, your total investment may looksomething like the details shown opposite.

So, the total cost or value of your investment is£256,937, a full 2.77 per cent more than the £250,000basic cost of the property. Remember the calculation:

36 Easy as ABC


Yield = Total Rent minus Running Costs/CurrentValue of Property

When evaluating this example as a property invest-ment, the figure that should go in the bottom half of theequation is £256,937 because this is the total investmentthat you, the buyer, will have to make.

Basic Cost of Property: £250,000AddMortgage arrangement fee £500Solicitor’s costs and expenses (includingstamp duty land tax) £3,350Survey fee £300Cost of redecoration and fixing snags £500Cost of very basic furnishings £1,000Sub total £255,650Cost of money from completion to first let,say one month on £255,650 @ 5% £1,065Cost of utilities and council tax(though if unfurnished council tax will notnormally apply for six months) up to first let

£150Cost of deposit from exchange tocompletion, say 21 days on a £25,000deposit @ 5% £72Total £256,937

There are a few things you need to watch out for.You’llhear developers talk about very high and attractive yieldson investment properties. Be careful, because when devel-opers talk about yields some may be simply dividing thegross rent by the basic cost of the property. In otherwords, they ignore running costs and voids completely

Easy as ABC 37


and don’t take any account of the transaction and set-upcosts you’ll have to bear. By doing this, they make theyield seem much higher than it actually is.

Even worse, many investors and every property TVshow I’ve ever seen fail to account for the opportunitycost of using the investors’ own money. Let me explain.

In the example above I took as my starting point, the£250,000 basic cost of the property. Few in the buy-to-let mortgage market are going to lend 100 per cent of thevalue of the property – 85 per cent is normally themaximum that’s ever been advanced, with the investorfinding the remaining 15 per cent. In this example, youwould need to put down £37,500 (15 per cent of£250,000) of your own money in order to buy thisproperty, with the mortgage company putting up£212,500.

Some developers then simply divide the rent by thevalue of the mortgage loan. As this is much smaller thanthe total value of your investment, it again produces amuch higher yield. It’s possible to see how big a differ-ence this makes. In our example, if you just take thebasic £18,000 gross rent and divide this by the mort-gage loan of £212,500, you get a “yield” of 0.0847 or8.47 per cent!

However, if you subtract from your £18,000 gross rent,an allowance for a one month void each year of £1,500as well as annual running costs of £2,000 and then dividethis by your total investment cost of £256,937, you getwhat we could call a “true net yield” of about 0.056 or5.6 per cent. £18,000 less £3,500 (£1,500 +£2,000)/£256,937 = 0.056 or, expressed as a percentage,5.6 per cent.

This true net yield is obviously very much smaller than

38 Easy as ABC


the 8.47 per cent figure some would have you believe!Also, bear in mind in this example, if you used an agent tofind a tenant, your total running costs are likely to behigher than £2,000 a year.

As long as the true net yield is greater than whateverthe cost of borrowed money is to you, then you’re makingmoney on renting. In our example, the true net yield is5.6 per cent and if the cost of mortgage money is 5 percent, we are 0.6 per cent to the good. Put another way,0.6 per cent of the value invested in the property(£256,937) is about £1,542, so this is what we aremaking in net income from the property.

Of course, if mortgage interest rates go up above 5.6per cent, then, in this example at least, we will bemaking no money in net income at all. However, overtime, if you have bought wisely you would expect rentsto rise, thus increasing the income from a property inthe future.

So, if you are investing in property you need to allowfor the possibility that interest rates can go up and youmust make sure that you can afford to meet interest repay-ments.

The key messages of this discussion about yields are:

• Be very sceptical about what anyone tells you about therents they think they can achieve for a property –especially if they want to sell you a property or let it foryou.

• Be realistic about all your costs – both the running costsand the transaction and set-up costs of a propertyinvestment.

• Be aware that many people misunderstand or misleadwhen they talk about yield. Do your own sums!

Easy as ABC 39


How to calculate capital growthOf course, the other way that properties make moneyover time is by going up in value, or “capital growth”.Fortunately, calculating this is easy. It’s simply the differ-ence between the value of the property when you buy itand the value when it’s sold less the total costs incurred inbuying and selling.

In the example above, the total buying cost (includingmortgage cost, solicitor’s, survey, furnishing and allpreletting costs) is £256,937. In the same way, when aproperty is sold, it’s important not to forget to includesolicitor’s costs, selling agent fees, costs in making theproperty ready to sell and the cost of utilities and lost rentfrom the day your last tenant leaves until completion.

Often, a property that has been let for a long time canlook tired so, when the final letting ends, it’s worthspending some money to make it look attractive to apotential buyer. I will discuss in Chapter 5 how to get theproperty to look its best. Don’t forget to allow for thiscost.

Don’t forget about tax either. Most income on residen-tial property is subject to income tax, and capital growthmay be subject to capital gains tax. For more on taxes seeChapter 11.

Many people today invest in properties where thestarting net yield is nil or negative. In other words, theirrunning costs, including interest are higher than theexpected rent.These people are hoping for better rents inthe future, lower borrowing costs and good capitalgrowth. But is this wise?

Well, it all depends. If you’ve done your homework,and follow my advice in Chapter 3, you’ll have a goodidea of whether future rents will be higher and if the

40 Easy as ABC


property is going to go up in price. I think such a strategycan work, but some degree of caution and a long time-horizon are required.

Of course, yield and capital growth go together like ahorse and cart. If the price of a property shoots up overtime (high capital growth) but the rental income from theproperty stayed the same, then the yield must have gonedown. If the yield goes low enough, then it’s always worththinking about selling and doing something else with themoney, like investing in another area or even just puttingit in the bank. If you put it in the bank though, you’ll missout on any further capital growth there might be in theproperty. Also, if you sell, you’ll have to consider possiblecapital gains tax complications.Again, for more on tax seeChapter 11.

So, good professional landlords are always evaluatingtheir property investments, looking at their potential,working out the best time to buy and sell and the besttypes of property to invest in. It is this that is the subjectof the next chapter.

Easy as ABC 41


Date post:	26-Mar-2015
Category:	Documents
Upload:	constable-robinson
View:	1,155 times
Download:	2 times

Successful Property Letting - David Lawrenson

Documents