Why your next BTL mortgage could be hard to find...


Like many of you, I have a rental property of my own. It was my first proper home, and I lived there for many years before a change of career took me to a new area. Rising property values and some careful saving meant that rather than sell my first place to fund the move, I was able to get a mortgage to cover both my new place, and a Buy To Let (BTL) mortgage on the first house. I’m very lucky to have found myself in this position, and I make sure that the rental property is kept in the same condition as I would have wanted when I lived there.

Like most BTL mortgages at the time, I was able to borrow 75% of the cost of the home, with most of the remaining 25% coming from the increase in equity since I bought the place. My initial fixed deal has now expired, and I have been shopping around for a re-mortgage. The rise in value has continued since then, with the new loan-to-value (LTV) ratio being 65%, so I imagined I would have no difficulty finding a new lender – indeed, with a lowed LTV I was expecting to get a lower interest rate.

In the end, my broker could find only one lender who would consider me for a loan. Since they are normally very good, I have to assume that further searching would not have turned up many more options. I was amazed that this was going to be such a limited choice, but the broker explained that I was being hit by changes to the affordability calculations that lenders use for BTL mortgages now. As ever, when dealing with finances it is vital that you seek advice from a professional advisor, as this is only my own understanding of the issues, but I think it’s something you should all be aware of before you consider your next mortgage or re-mortgage.

So why did I struggle to find a lender?

The Prudential Regulation Authority (PRA) is a part of the Bank of England and responsible for the prudential regulation and supervision of banks, building societies, credit unions, insurers and major investment firms. It sets standards and supervises financial institutions at the level of the individual firm. In September last year it published updated underwriting standards for the BTL sector, which came into effect from 1st January 2017.

This requires lenders to use an interest coverage ratio (ICR: your rental earnings before tax and expenses divided by your mortgage interest costs), and/or personal income to consider whether you can afford the mortgage. The new normal here will be to use a ratio of 145% - so your rent needs to be 145% of your mortgage interest costs, or you need to have the ability to ‘top up’ that value from your other income, usually salary. However, it gets worse. Those ratios need to be calculated at 3% above the current rate on offer, to take account of any possible future rises. So if your mortgage is being offered at 2.5%, you need to show that you can earn 145% of the mortgage interest costs at 5.5%.

Confused yet?

Let’s use me as an example. My 2.85% mortgage would cost me £500pcm in interest. With a rental income of £1000pcm, I can afford this comfortably. At 5.85% interest rates, my monthly interest payment would be £1024pcm, and I would be in difficulties. But the bank wants me to have 145% of the cost of that higher borrowing – so I’d have to show a rental income of £1024 x 145% = £1485pcm, which is not a realistic rent for my property. As a result, I had to show that I could meet the higher costs from my savings and salary, if rates were to rise.

What does this mean for me?

Well, if you have significant LTV outstanding on your BTL property, it could mean that you find it difficult to re-mortgage at the end of your current promotional offer. You’d probably have to remain with your current lender, who would naturally transfer you to their Standard Variable Rate (SVR) at the end of your deal. However, the SVR should be approached with caution. It is almost never the best deal that the lender has, so you will probably be paying more initially. More significantly, it offers you no protection against future rises in interest rates, so I would strongly suggest that even if you are unable to switch lenders at the point of re-mortgage due to these new stress tests, you should approach your current lender about the best deal they can offer you. If you are close enough to the top of your borrowing power that these tests are restricting you from moving lender, I would also recommend you consider a fixed-rate or capped mortgage, to limit your liability if things do change.

Finally, you could also take this opportunity to carry out a rent review, if you have not done so recently. Jasmine, myself and the rest of the team are always happy to help appraise your property to see if you are making the most of your valuable asset – feel free to give us a call on 0115 945 5179 any time.

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