While HMOs require an increased level of expertise in terms of managing tenants, building work, and the long list of legal obligations, many landlords find the gains in rental income to be worth it, provided they do it correctly. However, the work involved is nearly exhausting, and you may end up in a trap if you do not obtain adequate information beforehand. In the words of CPCfinance, they report the following: “Many types of investors are now being attracted to, or paying close attention to, the HMO market. Lenders are seeing an increase in traditional BTL investors looking at HMOs; they are attracted to the perception of a significantly enhanced income. However, they are not necessarily experienced in the management of HMOs and may not fully understand the operating costs and management time involved, and therefore overestimate the underlying profitability”. Yes, HMO's do have the highest income results in assets, but we need to be mindful of the steps ahead for this kind of investment in order to be certain that you are taking the right course of action before getting entangled in the details.
The language used by BTL investors contains many similar terms. More than half of all investors in the UK fail to understand how to arrive at a few very important metrics when it comes to HMO property investment, not just understanding what they mean.
Gross yield is a measure of the overall return on an investment before taxes and expenses are taken into account. An investor may use gross yield as a measure of relative returns when comparing the performance of various investments, such as bonds, mutual funds, and rental properties.
Gross Yield Calculation: Gross Yield = Annual Rent / Purchase Price (times 100 for %age)
As for net yield, it will reflect the costs you will incur on an annual basis and will provide a yield return after those expenses.
Net Yield Calculation: Net Yield = (Gross Annual Income – Costs Per Annum) / Purchase Price (times 100 for %age)
At any given time, cash flow represents the net amount of cash moving into and out of a business. Businesses are constantly receiving and disbursing cash. A retailer, for instance, spends money on inventory, which flows out of its business toward its suppliers.
Cashflow calculation: Total Income – Total Expenses
Return on Investment
Investors can use return on investment, or ROI, to evaluate their investments and assess how well they have performed in comparison with others. When developing a business case for a given proposal, ROI calculations are sometimes used in conjunction with other approaches.
ROI Calculation: Return On Investment = Net Profit / Total Investment (times 100 for %age)
Having a good knowledge of the market is vital when considering an HMO investment. Location, as with any property purchase, is key to getting the best returns, taking into account the initial costs, potential capital gains as well as tenant demand and potential rental yields in the area. Start your research on the following:
Location is important - HMOs are not all compatible with every property, so the number of suitable properties in an area may be limited in comparison to single-lettings. It is strongly recommended that you research the best locations for your investments, and if the demand for these properties exceeds the supply, you will have difficulty finding one at a reasonable price. However, we do know that London has always had success in buy-to-let investments due to the tenancy demands, but that house prices and operating costs will increase more significantly. There is still a great deal of tenant supply available in areas such as Birmingham, Manchester, Liverpool and Leeds, which provide affordable housing.
Consider your personal circumstances - While HMOs can bring in a great deal of profit compared to other types of properties, they have higher start-up costs than buy-to-lets, which could be a deterrent for some investors. As an example, there are more communal amenities, such as furniture, that need to be purchased and if you have the money to take risks, then it may be the perfect investment for you. The most obvious strategy for investing in an HMO is to save enough for a deposit and obtain a mortgage to cover the rest of the costs. A deposit of 25-35% is usually required. You should speak to your mortgage broker or financial advisor to determine what options are available to you.
Understand the HMO rules and regulations - HMOs are governed by more legislation and have more planning requirements than more straightforward buy-to-let properties. Obtaining this type of property, for example, requires the possession of an HMO license. HMO licensing serves the purpose of ensuring that residential accommodation within the Private Rented Sector (PRS) is safe, well managed, and of exceptional quality, with particular attention being paid to safety. Since October 2018, a mandatory policy has been in place for HMOs that are occupied by five or more individuals, comprising individuals living in two or more separate households - frequently but not exclusively a group of cohabiting adults regardless of the number of levels. Therefore, it is recommended that you research all the requirements in a comprehensive manner so you are fully aware of the requirements. In the event that you are unaware of any of these rules, you may be subject to sanctions and a fine of up to £30,000 may be imposed. You will find that local HMO offices are available to assist you with these matters as well. Local authorities employ this person in order to assist landlords and developers with adhering to local regulations. Their advice is of great value to landlords and developers. As a result, it is highly recommended that you contact your local HMO officer before investing in an HMO.
Choosing your tenants carefully - A prime reason that btl investors are often thrown off is that dealing with the wrong tenants can be a nightmare sometimes. It is important for landlords to conduct thorough checks, have an honest conversation, and use their gut instinct to find the perfect tenant.
Getting help from a BTL lender - In the case of first-time investors, getting a mortgage/finance for an investment can be more challenging. Lenders have less flexibility when it comes to approving a buy-to-let mortgage if the applicant has adverse credit than when it comes to residential purchases. Your income - which must be at least £25,000 - as well as how many properties you own will be taken into consideration. Depending on how many mortgaged buy-to-let properties you own, you may be able to secure a loan from a particular lender. The number will vary from lender to lender, so it is best to seek advice from an experienced mortgage broker.
The discussion above suggests that many conversations should take place with yourself or your co-investor when considering this type of property. The following questions should be asked by you before investing in an HMO, or you can discuss them with a local HMO officer before making the investment.
- Can you estimate the potential rental yield?
- Does the yield compare favorably with the purchase price?
- Does the area have a sustainable rental demand?
- Are my potential tenants trustworthy?
- Can capital growth be expected?
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