Please note that
articles on this site & any other 'planning-approval' related web site
does not constitute professional advice. All articles are intended to provide
a general view of many subjects. We suggest you to consult a solicitor before
making any important decisions. The author is not an expert in any
given field.
Property Auctions
Types of Tenancies
by Howard Goodie
I was provoked only
the other day by a notice which we have in our brochure month by month about
domestic tenancies which reads:
"Intending purchasers
are advised to check documentation and take advice upon the exact nature
of domestic tenancies in which they are interested. Tenants who occupy on
assured or regulated tenancies almost undoubtedly have their security of
tenure protected. Others on Assured Shorthold Tenancies will only have limited
protection"
My provocation was
increased when Peter told me of three recent letters which he had received
from readers asking for an item on the difference between regulated, assured
and shorthold tenancies in domestic accommodation, and the nuances of the
market in relation to them.
The original regulation
of domestic rents started in 1914 when the government felt that they needed
to protect the security of tenure and the level of rents of wartime workers.
Before the First World War, landlords had been able to terminate domestic
tenancies with appropriate notice. I have been told how my grandfather, who
was an entrepreneur like so many of us, used to buy rows of tenanted property
at auction. He was in a consortium of four people during the period up to
1914. His consortium would empty the properties, redecorate and refurbish
them, and then re-let them - it was said - at sixpence a week more. (To those
of you now inured to metric currency, that is less than 3p today). Having
increased the rent roll, hopefully improved the quality of the covenants
of the tenants, and certainly having improved the quality of the properties,
the consortium would then hope to sell them on at profit - not generally
by auction. The quality of the tenancies and of their relations and relatives
that are still in occupation today is a testament to his skill at choosing
his tenants. One of my early memories is of going rent-collecting on a bicycle,
calling on some of those streets that my grandfather - much more comfortably
- took in his pony and trap! The old (badly) written, leather-bound ledger
detailing his transactions still occupies a treasured place in my office
drawer. That, above all, survived the fire without
damage.
But I digress. My
article approximately twelve months ago provided one paragraph about regulated,
assured and assured shorthold tenancies, and in view of all the queries we
have been getting at PAN I felt I ought to cover these in more detail and
bring you up to date on the position buyers at auction appear to be taking
at the moment on the different categories of the
investment.
All my comments this
month refer to tenancies of domestic properties. The oldest category is that
of regulated tenancies, which are also known as protected tenancies, and
they are a successor to controlled tenancies. They only apply to a dwelling
house let as a separate dwelling, and the premises must not be part of a
building in which the landlord resides other than in a purpose-built block
of flats. They must not be part of a larger holding of land, and they must
not be part of an agricultural
holding.
The length of the tenancy is not material.
The Rent Act 1977 provides for certain categories of exempt
landlord and indicates that the dwelling has to be occupied personally as
a residence by the tenant. A company cannot acquire
rights.
This type of tenancy
is the oldest, and it can normally only have been created before 15th January
1989 or it was granted after that date to someone who was a protected tenant
or a statutory tenant on that date. The position of statutory tenants is
very important to a property investor. A statutory tenant is one who occupied
on a regulated tenancy which has expired, or where a notice to quit has been
issued at some time in the past. On the death of a statutory tenant the tenancy
can be passed on to another relative on two separate occasions where the
original person died before 15th January 1989. The person to whom the tenancy
is transmitted must have been either (a) a spouse or (b) a member of the
tenant's close family residing with the tenant at the time of his or her
death and for the previous six months. Where the tenant or the first successor
died after 15th January 1989 the tenancy can only be transmitted once and
the successor then holds an assured tenancy, which I shall detail
later.
Regulated tenancies can arise if
they are created after 15th January 1989, if they are a tenancy granted as
"suitable alternative accommodation" after a possession order, and if the
court considers a regulated tenancy more suitable than an assured tenancy
of the alternative accommodation provided. There are other factors: a regulated
tenancy cannot exist if the rent includes payment of board and attendance;
the premises must be let as a separate accommodation with no living accommodation
shared; it must not be a business tenancy, even where dwelling accommodation
is involved; and the property must not have an on-licence for liquor. There
are certain grounds for obtaining possession, but a court order is always
needed and both the mandatory and discretionary grounds are very stringently
treated in the courts.
The rent of properties
on regulated tenancies cannot be increased, other than by an application
to and a decision by the Rent Officer. This is the "fair rents" procedure,
whereby the landlord can apply to have the registered rent increased every
two years. The government endeavoured to cap these increases to 10% of the
existing rent, but in a recent court case it has been decided that Parliament
exceeded its powers in so doing. It is understood they are currently considering
an appeal.
Fair rents" are anything
but fair to landlords. The Rent Officer has to assume that the demand for
properties in the district is exactly equal to the number of properties that
are available, and has to have regard to the level of existing rents in the
area before reducing the rental figure to eliminate any "scarcity value".
Many registered rents are currently settled at between 60% and 80% of open
market rental value. There is an opportunity to appeal to a Rent Assessment
Committee.
What does the investor
look for in properties let on regulated rents? They are generally readily
saleable, and it is very seldom in any sale room that a property let on a
regulated tenancy does not sell. In recent years, the demand has diminished
a little, mainly because the rate of inflation has been stabilised at a
relatively low figure and the vacant possession values of houses have not
been escalating as quickly as they were, say, ten years ago. The average
rate at which houses let on regulated tenancies come empty is about one-in-six
per year, and investors relied on this for capital gains (particularly in
the years when they were not taxable) once vacant possession was obtained.
A lucky buyer might be able to buy at between 50% and 55% of vacant possession
value, where a property is occupied by a regulated tenancy, but as the stock
of houses reduces, the rents increase, the stock tends to be a little more
modern than it was, and the tenants grow older, so the prices paid in the
sale room have crept up to between 60% and 80% of vacant possession value.
In my view, the investor is unwise to buy at the top of that range, since
it is inevitable that the houses need modernisation before they can be re-sold,
and much of the potential profit can be absorbed. In my office, when we are
offering properties on this type of tenancy, we frequently have potential
bidders asking us the age of the tenants. Often we do not know (and are far
too polite to ask aged women tenants!) but particularly it seems to be our
experience that Murphy's Law and actuarial theories still support our views
that older tenants frequently give up possession far less early than the
younger ones.
Assured tenancies are those which
are at open market rent, but where the security of tenure and rights for
succession still exist. The Rent Officer's sway still has some effect on
the rent that might become payable, since Housing Benefit levels - if they
apply - are limited by his decision as to what is an appropriate rental level.
He has to assume that the size of the premises is limited to what is appropriate
for the tenant and occupiers of the house, but he does not need to deduct
any "scarcity value". An assured tenancy may have come into existence on
a succession of tenancy following the death of a tenant on a regulated tenancy,
or where inappropriate notices were served at the beginning of a tenancy
which the landlord intended to be an assured shorthold. The important result
of such a failure is that the tenant has the security of tenure which he
would have had if he had been a regulated tenant.
The market for properties
on assured tenancies seems to be very similar to that for properties let
on regulated tenancies, and the same parameters of value in relation to the
vacant possession figure seem to apply. In my view, logically, such properties
should be worth more since the rent on an assured tenancy is going to be
higher, but in practice I suspect that many buyers are not really aware of
the difference between an assured tenancy and a regulated one, and only work
out their figures by looking at the potential capital gain at the time the
tenant leaves. Net income return from the property does not seem to be a
consideration.
Assured shorthold tenancies provide
our remaining category of residential tenancies, and broadly cover the remaining
spectrum of tenancies which have been more recently created over recent years.
At one time there were strict requirements for the form of notices issued
to tenants at the start of assured shorthold tenancies, but these have now
been removed. Any letting (unless specifically expressed to be otherwise)
of a dwelling house as a separate dwelling for a term of not less than six
months without power for the landlord to terminate within six months of
commencement is an assured shorthold tenancy. We find therefore a greater
and greater number of domestic properties that are let have been done so
on assured shorthold tenancies. They are the "bread and butter" purchases
of the "buy-to-let" investor who prefers to purchase with a tenant in occupation
rather than buy with vacant possession and look for a tenant. Once an assured
shorthold tenancy has expired, it can be terminated by two months' notice,
but should the tenant resist that notice it may still be necessary to obtain
a court order for possession. An assured periodic shorthold tenancy can pass
to the tenant's spouse or common law spouse who survives after a death, but
there are no other security rights such as those of a regulated tenancy.
In theory,
therefore, any buyer should be able to look at the period remaining of any
tenancy and then calculate his price based on the figure he might get for
vacant possession plus any expected appreciation. However, the buyer must
allow for what might be a limited yield during the period whilst he is waiting
for possession, loss of rent towards the end of the lease, any costs of
restoration before the sale, and the actual costs of sale. Strictly speaking,
valuation theory would suggest therefore that one should not bid more than
80% of the expected vacant possession value of the property in the auction
room when there is an assured shorthold
tenancy.
It is, however, at
this point that yields appear to matter to investors. Generally they do not
appear to be looking for vacant possession and a capital gain but buying
for investment. I can point to many instances in my sale room where properties
of this kind can, in the poorer areas, sell for four times the gross annual
income, going up as far as seven times that gross income where the property
is modern and in superlative condition. In practice, many owners of properties
let on assured shorthold tenancies will frequently be unwilling to sell at
these sorts of figures, and the reserves tend to be higher. For some reason,
most buyers seem to prefer buying properties with vacant possession, carry
out their own improvements and then let houses to their choice of tenants.
In my view the resulting yield is frequently likely to be less than that
which could be obtained by buying a property with the tenant in situ. Presumably
investors prefer to have tenants of a mould which they choose and see that
the property is brought up to letting standard in their own image rather
than that of others.
I wonder how these
markets might move? I have referred already to the increase in values we
have seen of properties let on regulated tenancies in the last two or three
years. Presumably Rent Officers are likely to bring rents closer and closer
to open market values as the scarcity factor
diminishes.
Perhaps by then investors
will be buying on the basis of yield, rather than on their view of the capital
gains that can be made when they obtain vacant possession. Hopefully the
whole market will move towards considering purchasing every type of residential
investment on a yield basis, despite the government's recent attempt to "cap"
increases of fair rents. I would hope that the housing market is now such
that there will not be many political moves to revert to the "old days" of
the four "r's" - registered, regulated and restricted rents. Only by moving
away from the old-fashioned political ideas on protecting tenants can we
expect to see the continuing increase in flexibility and expansion of the
residential investment market.
Buy to let,
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There are many paths
in property, and all are exciting and interesting. For a start, some of the
paths in property you could choose from are in the menu.
These of course are
not all of the routes you can take.
Plan4group information
is mainly focused on residential and in the UK only. Once you have reviewed
each path, you have lots of planning to do to make sure you are maximising
the benefits of each route. It is best to try to be focused, pick a path
and learn as much about it as you can. Once you have enough experience, then
if you want to expand you will have a good base to start from. I have found
that most people in property who have not been successful, have been so because
they tried to do a bit of everything, and bit off more than they could chew.
They also had unrealistic low budgets for any refurbishments or upgrades
(just look at the twee tv programme property ladder). No one can tell you
what is the right path for you. This is something you have to decide yourself.
Research this site to find out more about buy to let and property investing
in the UK.
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Unravelling the
different aspects of but to let and property investing.
Buy To Let can be
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where you are responsible for property that people live in. This is not a
responsibility you should take lightly, and you should take as many precautions
as possible to make sure your tenant is safe.
When you are looking
for your first buy to let property you should push out of your mind that
you are buying it for you to live in. It is easy to get carried away and
not buy a property because you think you would not live in it, yet it could
be a good investment. I always adopt a clinical approach.
Researching an area
is simple. I call up several local agents and ask them what is in demand.
There is no point in buying a 2 bed flat in Birmingham if there are 20 on
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the rental prices down in the area, making other investors suffer. You need
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Look closely at what
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issues of demand - are tenants requesting furniture? What level of furnishing?
Do they demand car parking? What levels of involvement can you manage in
letting? Using a letting agent to manage your property.
By far the less hassle
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bought your property a good letting agent will help you prepare it for the
market. They will require an inventory of items to remain in the property
and of the overall condition, gas certificate and most now expect an electrical
test.
The letting agent
should vet your tenant and prepare the tenancy agreement. The agent should
manage any calls regarding your property, and chase any overdue rent, depending
on the level of service you have agreed with them. Different agents charge
different management fees ranging from 5% for multiple property to about
15% for a single property.
Managing
your own property
Some people
like a hands on approach. I would suggest if you are new to the market that
you use a letting agent for the first on and monitor the process. This should
give you a guide of what to do yourself once you go it alone. There is a
chance that this option can be very time consuming and demanding. You need
to decide if you have time to spare for this. Use a company to source and
manage your property.
The easy way out
maybe? Well not always. If you find a good company who do what they promise,
you could be set for life with a fantastic portfolio. It saves you time and
energy - and though you may have to pay a premium for the property, it lets
you have a hands off and feet up approach. Beware there are many companies
that do not do what they say. You should research all companies very carefully.
I suggest that taking a personal recommendation is a good approach - but
make sure its not a set up - and it’s someone from the company. This
is just a taster of buy to let - to get you mind focused on possibilities
and options. There are many more options in this area of investment that
you will discover, the more you read and network.
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Assignment :
The sale of a tenant’s entire lease to another person.
Adverse Credit : A poor credit record. APR : APR stands for Annualised Percentage Rate. A lender is always
required to quote the APR rate when advertising a loan / borrowing rate.
The lender will usually also quote the headline rate, and the APR next to
it. The headline rate states the rate of interest you pay per month or per
year on the mortgage, but the APR calculates the total amount of interest
that will be paid over the whole term of the loan. It should also take into
account any charges, which the borrower has to pay during the loan period.
The APR is therefore always higher than the headline rate, and is a realistic
representation of the cost of the mortgage over time.
Arrangement Fee : The charge some lenders make for providing a loan.
ASU : Accident Sickness & Unemployment Insurance.
Base Rate : The UK's core interest rate, set by the Bank of England.
The lender’s Standard Variable Rate (SVR) is higher than the Base Rate,
but is often adjusted by reference to it.
Bonding Scheme : An agreement by members of a profession or trade to
establish a central compensation fund which consumers can draw on in cases
of fraud or insolvency.
Booking Fee : The charge paid on application to secure funds, usually
required for special deals such as capped or discounted rates.
Broker : A person that advises on a mortgage or loan that will suit your
needs. They usually work from a restricted range of deals. BSA : Building Society Association, the trade body for building societies.
BTL : Buy To Let.
Building Insurance : Insurance cover which protects the holder against
damage to the property itself (although it can be linked with contents insurance
in a combined policy). The amount insured may vary from the purchase
price/valuation of the property depending on the type of location of the
property. The valuer will usually provide a rebuild cost for insurance purposes.
Building Survey : A detailed survey of the property you are planning
to buy. Also known as a full structural survey.
Buy To Let : The practice of buying a house or flat for investment purposes.
Income is provided by the tenants' rent, and capital growth (if any) by the
property's increasing resale value. Buy To Let Mortgage : A loan to buy an investment
property.
Capital :
The amount of money borrowed to buy your property.
Capital & Interest : In the context of mortgages, a capital and interest
mortgage is also known as a repayment mortgage. It involves paying all of
the interest plus repayment of a little of the capital each month; an interest
only mortgage involves only paying off the interest. Capped Rate : A mortgage which allows your interest rate to climb
or drop no higher or lower than a specified level, usually for the first
few years of the loan.
Cash Back : A mortgage that provides a borrower with an immediate lump
sum payout on top of the sum borrowed to buy the property. This has to be
paid for one way or the other, so cash back mortgages will typically be at
a higher rate than other mortgages and will usually have redemption penalties
for several years. CAM : Current Account Mortgage. CML : The Council of Mortgage Lenders, which has devised the Mortgage
Code to ensure lenders treat customers fairly.
Compulsories : This is shorthand for compulsory insurances. Some lenders,
at least for certain mortgages, insist that you take out their buildings
insurance – which needn’t necessarily be the most cost effective
on the market. Our Mortgage Wizards allow you to select out these products
if you wish to (although sometimes of course, the mortgages can be so good
that it outweighs the potential disadvantage of taking the compulsory insurance).
Completion : The final stage of the house-buying process, which comes
after exchange of contracts. The sale must proceed after Exchange, but Completion
occurs when the property's agreed sale price (less any deposit already paid)
safely reaches the seller's bank account.
Contents Insurance : Insurance covers which protects the personal belongings
your home contains. In the case of rented accommodation, the landlord is
responsible for insuring those contents, which he owns, but not those owned
by his tenants.
Conversion : Can refer to a property that was once a house but has been
converted to a flat. Also could refer to a loft that has been converted to
a room. Changing from one use to another.
Conveyancing : Normally carried out by a solicitor or licensed conveyancer
on the buyer's behalf, conveyancing includes proving the property is really
owned by its seller, making sure that all the loans secured on it are discharged,
establishing its legal boundaries and searching local planning information
for upcoming developments which could affect the property's value.
Council Tax : A local authority charge, which replaced the Community
Charge in 1993/94. Generally speaking, the more valuable your property is,
the higher your Council Tax bill will be, although the amount for an identical
property can vary considerably between different local authorities. In rented
or buy to let accommodation, the tenants are usually responsible for the
Council tax.
CCJ : County Court Judgment. If a County Court rules against you for
defaulting on a debt, that ruling is listed on your credit record. Having
such a judgment listed against you may mean you are turned down for future
loans, or be expected to pay a higher rate than other customers. The Scottish
equivalent of an English CCJ is a Decree.
Credit Reference Agency : When assessing your application, a mortgage
lender will study your credit records. These records are held centrally by
credit reference agencies, and contain information from many different aspects
of your life.
Current Account : A bank account linked to a cheque book and/or debit
card. In exchange for instant access and the ability use cheque or debit
facilities, most pay little or no interest on the balance they contain. Deeds : The formal written document, which lists exactly who owns
a property and enables transfer of a property's ownership from seller to
buyer. A mortgage lender will record details of their mortgage on these deeds
(which means they can take ownership of the property if you default on the
loan payments).
Deposit : In the context of mortgages, the deposit is the initial lump
sum payment, which the buyer must contribute to the property's total purchase
price. Disbursements : The costs of the legal process that your solicitor
or conveyancer will have to pay for on your behalf and which are added to
their bill. (i.e. land registry searches).
Discharge Fee : A fee charged by a lender for releasing its charge over
a property once you have paid off your loan. You may incur this fee if you
move to another lender.
Discounted Rate : A mortgage which has an interest rate below the lender's
standard variable rate (SVR), Bank Base Rate or Libor rate, typically for
the first few months or years of the loan. The rate payable may move up and
down, but the discount on SVR remains constant.
Diversification : The principle that wise investors should spread their
risk among many different types of investment. A properly balanced portfolio
will contain elements of share, deposit-based and property investments. Fund
performance and objective achievement are not guaranteed.
Drawdown Facility : The ability to borrow extra money through your mortgage
later on, possibly after you have paid some off. You can be issued with a
cheque book for this.
Early Redemption Penalties : Fixed-rate, capped-rate, cash back and discount
rate mortgages commonly carry early redemption penalties which can in some
cases persist long after the initial special rate itself has expired. This
can make it prohibitively expensive to move to a rival lender in the first
few years of the loan. The Charcol online web site shows you the size of
any redemption penalty and how it changes over time.
Employment Status : A term used by lenders to describe potential borrowers'
working arrangements. Self-employed applicants are sometimes seen as a greater
risk than employees are. But many specialist lenders and mortgages have emerged
in recent years designed specially for different types of employment status,
and the Charcol online website has a wide variety of these in its database.
Endowment Mortgage : A mortgage funded by an insurance-based savings
plan, which may give you a bonus payment or additional returns by the end
of the loan's term if it performs well. Equities : Another name for ordinary shares. Equity : The difference between the value of your property, and the
amount of loan secured on it.
Exchange Of Contracts : The terms of a property's purchase become legally
binding for both parties when contracts are exchanged. The buyer is then
committed to buying, and the seller to selling. As a buyer, you should normally
ensure that building insurance from this date covers you, because even if
the property were damaged badly, you would still have to buy it.
Execution-only : A service, which offers no advice, but merely carries
out the customer's orders.
Feuhold :
A form of legal title applicable only in Scotland.
First Charge : The legal charge a lender has over your property. They
have first call on funds available from the sale of a property.
Fixed Rate : A mortgage, which fixes your interest rate at a specified
level, typically for the first few years of the loan.
Flexible Mortgage : A mortgage, which allows borrowers to make
overpayments when they have spare cash. Other features could include the
option to reduce or miss payments altogether when times are tight, and to
re-borrow any overpayments. Not all flexible mortgages offer all of these
features. Often useful for self-employed people, whose income varies from
one month to the next. The most flexible form of mortgage is a Current Account
Mortgage (CAM), which can potentially save you money by linking your current
account and mortgage together.
Freehold : Ownership of the land on which a property stands.
Full Status Loan : A loan where complete checks are made on your credit
history and income.
Gearing : Using lenders funds to fuel your investment growth. Remortgage
to buy more, realising equity and keeping it moving.
Gross : Before tax.
Growth : A growth strategy is one, which seeks to maximise the capital
value of your investment without the requirement to generate any minimum
level of income. Any income may be reinvested.
Ground Rent : Annual rent paid by the owner of a leasehold property to
the person who owns the freehold.
Guarantor : Someone who agrees to guarantee your loan or payments should
you default.
Illustration :
In the context of mortgages, a lender's estimate of the monthly payments
you would have to make under a particular loan arrangement, together with
the costs to set it up.
Impaired Credit : Impaired credit mortgages are specialist loans for
customers whose credit problems disqualify them from using mainstream lenders'
standard products. Some lenders specialise in loans like these, which are
also known as adverse credit loans. IFA : Independent Financial Adviser. Income Multiplier : How a mortgage lender works out how much you can
borrow usually by multiplying your income.
Interest : The premium, which a borrower must pay a lender in return
for use of the lender's money. Interest-only Mortgage : With a mortgage like this, your monthly
repayments cover only the interest element of the loan. You will normally
need a repayment vehicle, such as an ISA, endowment or a personal pension,
to repay the capital.
ISA Mortgage : A mortgage loan funded by contributions to an Individual
Savings Account. ISAs provide tax-free growth, generated mainly by stock
market investment. The ISA aims to repay the loan's capital at the end of
its term, but the interest element must be paid separately as you go along.
It's important to remember that past performance is not necessarily a guide
to future performance.
K : Symbol for a thousand when added to the end of a sum of money ie
£13k is £13,000.
Land Registry : The official body responsible for maintaining records
of property ownership.
Leasehold : Ownership of a property, but not the land on which it stands.
When the lease expires, the property reverts to the freeholder. Lenders Reference : An endorsement from a previous or current lender
to say if you have maintained your payments.
Letting Agent : A property agent who can help landlords locate suitable
properties for purchase, and who finds tenants to occupy those properties
and can manages the rental process which follows. LIBOR : London Interbank Offered Rate, the rate at which banks notionally
buy and sell money to each other. LIBOR-Linked mortgages are susceptible
to a change in interest rate every three months. LTV : Loan To Value This is the amount you want to borrow divided
by the purchase price. In other words, it reflects the size of your deposit.
Generally, the lower the loan to value, the safer the lender will view the
loan. Missives : Scottish equivalent of exchanging contract. No deposit
is required but it is legally binding. MIG : Mortgage Indemnity Guarantee This is an insurance premium which
you have to pay for some mortgages, usually when the Loan To Value is higher
than a certain figure. It protects the lender to some extent if you default
on the mortgage for any reason. It is important to understand that although
you have to pay the premium, the lender benefits from any payout, and that
if the payout doesn’t cover their costs they may seek further money
from you. With many mortgages you can add the MIG to the loan, unless this
takes your Loan To Value over a certain figure. The insurer may pursue the
defaulter for reimbursement of any monies which have been paid out in respect
of lenders claim.
Negative Equity
: Where the size of your property loan is greater than the market value.
Net : After tax has been deducted.
No money down deal : Using Finance to place a deposit, or finding finance
that covers whole purchase. Some lenders offer Loan To Value and so if you
buy a reduced price property, you may not have to put money down.
OMV : Open Market Value The price a property fetches when there is a
willing buyer and willing seller. PPR : Primary Place of Residence, also known as Primary
Domicile.
Repayment Mortgage : A mortgage loan funded by simple monthly repayments,
calculated to repay capital and interest usually over a term of 25 years
(less if preferred).
Retention : Holding back part of a loan until repairs to a property are
complete.
Reversionary Interest : This is a contractual ownership where people
sell their house but they are allowed to remain living in it until some future
date, usually until they die.
ROI : Return on Investment.
RSL : Registered Social Landlord. (Housing Association).
Sealing Fee :
See Discharge Fee. Search : A local authority search is an examination of local planning
records to uncover details of any upcoming developments near the property
which could affect its future value or existing restrictions on the site.
SHEP : Second-Hand Endowment Policy Endowment policies part-way through
their term can sometimes be sold on the open market. Disposing of an unwanted
policy in this way often produces a better price than the traditional route
of early surrender. Also known as Traded Endowment Policies (TEPS).
Secured (loan) : If you should default on your mortgage, the lender can
ultimately repossess your property to recover their money. The loan is hence
said to be "secured" on the property.
Self Build : Where you design, manage and build your own property. Self-certification : Where no proof is available, prospective borrowers
are sometimes allowed to vouch for their own income. Self-employed applicants
who lack the two years' record of accounts that lenders would normally require
most commonly use this process, known as self-certification. Many lenders
charge a small premium on self-certificate business to reflect the extra
risk involved. Sitting Tenant : Someone who has a legal right of occupation, even
if the property is sold to someone else, and can apply to the local authority
to have a fair rent set.
SVR : Standard Variable Rate. A mortgage lender's main interest rate.
Fixed-rate and discount loans usually switch to SVR when the special offer
period expires. Conversely, tracker mortgages switch to a fixed percentage
above Bank Of England Base rate (or LIBOR). Status : A shorthand term for the borrower's credit record and employment
situation. See "Non-Status Loan".
Stamp Duty : A government tax on property purchase. Some property is
exempt from this. Sub-Prime : Borrower with adverse credit.
Surrender : The process of cashing in an unwanted endowment policy with
the insurer who sold it to you. Doing this often produces a poor return for
the money invested to date in the policy's early years.
Survey : An expert examination of the property you are considering buying,
aimed at discovering any structural flaws or repairs needed which you may
have failed to notice yourself.
Term : The period of time over which your mortgage will run. Typically
25 Years or to expected retirement date if that comes first.
Title Deed : Legal document assigning ownership of a property or land.
Tracker : Tracker mortgages link your interest rate to a benchmark,
such as Bank of England base rate. The rate you pay moves up and down in
line with the benchmark selected.
TEP & SHEP : Traded Endowment Policy (TEP) Another name for Second-Hand
Endowment Policy (SHEP). Under Offer : A term used when a seller of a property has provisionally
accepted a buyers offer.
Valuation : A very basic survey of a property to determine its value.
Mortgage lenders insist on this before lending on a property.
Variable Base Rate : The basic rate of interest charged on a mortgage.
This may change in reaction to market conditions, so your monthly payments
can go up or down. Vendor : Seller.
Yield : Profit or return on investment.
Property Auctions
YPS & property Yields
by Howard Goodie
I thought
I might take a step or two away from the rostrum today and ruminate, as a
chartered valuation surveyor and estate agent as well as an auctioneer, on
interest rates, market values and yields. Be warned, as a different subject
is likely to bring me to one of my hobby horses: investing in properties
other than residential! So, what do I think of as yield and how does the
valuer express it? A yield from an orchard is in tons of fruit (or is it
tonnes these days – I’m too old fashioned to know?) and from shares
is net cash. That’s easy. Equally easy in property, as it’s the
amount of income we receive compared to market value. Almost invariably,
it is the gross amount receivable before expenses and before tax. To add
to the equation in valuation jargon we often talk about YP, just to confuse
the issue! YP, dare I say, of course, stands for Years Purchase. That is
the figure by which you divide the value of the property to produce the gross
amount of rent. Conversely, it is also the figure by which you multiply the
gross rent to give you value. Let me give you an example: A property sells
at £50,000; assume this represents market value. The gross rent is
£7,500 pa; thus, our Years Purchase is 6.667 and the yield is 15%.
£7,500 pa produced by the investment of £50,000 (15% represents
7,500 divided by 50,000 times 100). If I then apply this approach to one
of the houses I have in my next auction (which will have been sold by the
time you read this article - sorry you missed the chance to buy it. It was
a bargain!) we can see how the calculations work out in practice. Lot 18,
39 Laburnum Road, Gorton, in east Manchester, is a typical end-terrace built
about the turn of the 19th Century, with three bedrooms, combined bathroom,
two entertaining rooms, and let on a normal assured shorthold tenancy for
twelve months at £60 per week (£3,120 per year) – very much
a “run of the mill” residential investment for that part of Manchester.
The guidelines are £12,000 to £16,000 and I would think it will
have sold at £15,000. In round terms, this is just under 5 Years purchase
(YP). Therefore, as you will already have calculated, it will be showing
a yield of just under 21%; the sort of gross yield that many would-be-buyers
tell me they are looking for in this sort of property. But, as I have stressed
before in PAN, when you are buying residential investments gross yield is
not net even when we are ignoring the taxman’s cut! When you have reached
completion and coughed up the balance of your £15,000, what sort of
income might you expect? Let me remind you of the expenditure you should
allow for. Are you going to use an agent, who is likely to charge you 12%
or 10% of the rent he collects, plus, probably, letting fees and costs on
top? With this type of property you will be likely to find that your tenants,
on average, move every 2 years. Even if you decide to manage the property
yourself, you should still allow for your expenses at about the same sort
of level. You should budget for annual repairs of about 10% per annum of
the rent. Immediately after you have bought, you can be pretty sure that
the tenant produces a long ‘wish list’ of repairs that his previous
landlord has bequeathed to you with the purchase; but, I have not allowed
for this in my calculations below. You should also consider the longer term
needs of redecoration; outside every three to four years and, quite possibly,
partially inside every time the tenancy changes. In the Manchester area you
can expect to find a liability for a small rent charge and don’t forget
that insurance premium that could be £75 or so per annum. I talked about
gross yield for the value calculation but your net yield is coming down and
down. The only consolation you can have is that all these expenses reduce
your tax liability so the taxman is bearing some of your burden. On this
subject, incidentally, PAN is hoping to cover this item in an article shortly.
It is also likely to be dealt with, hopefully, by the same contributor in
a presentation at our next PAN Conference to be held in London towards the
end of May 2002. Register for full details early in the new year with Sue
Burgess at 4 Crossgate Avenue, Manchester M22 8AW or by sending an e-mail
of your postal address to me at howgood@man.ac.uk. Now, after that digression,
back to our true net yield on 39 Laburnum Road. I have still not pointed
out that you also need to make allowances for empty periods between lettings
(“empties” in estate agents parlance). Where’s all your income
disappearing! Lets look at the true net result. Gross Income pa -
£3,120
Expenditure pa
Insurance -
£75
Repairs -
£312
Long term
repairs -
£150
Rent charge
- £8
Empties with
costs -
£300
Agent’s fees
- £375
Total Expenses
- £1,220
Net income
- £1,900
Net yield
- 12.7%
Still, not
so bad with interest rates at the level they are today and, of course, we
have only looked at the income position. You will, no doubt, wish to take
the future growth of income and capital value into your equation as well.
For that, you will have to start coming to conclusions for yourself as to
the future. They do issue crystal balls to all chartered valuation surveyors
when they qualify, but our professional negligence insurers don’t allow
us to use them to come to public
conclusions!
But, have
you thought about the possibility of gearing your finances, particularly
when buy-to-let loans are so cheap at the moment? You will see various brokers
mentioned in the back of PAN and they are also frequently represented, and
make presentations, at our conferences. Let’s look at the consequences
of gearing your purchase with a loan of £12,000 at
5%.
Capital cost
- £15,000
Costs of
loan, say -
£500
Total investment
- £15,500
Less loan
- £12,000
Personal investment
- £3,500
Net income
- £1,900
Less interest
on £12,000 @ 5% -
£600
Resultant final income
- £1,300
Resultant net yield
37+% £1,300 pa from a £3,500
investment
Apart from
increasing your yield considerably let me also, gently, remind you that you
have also “kept much of your powder dry” for the next purchases:
£11,500 to be precise. Maybe that will help your portfolio to grow almost
instantly with two or three more purchases at this level before you even
start thinking of your existing holdings increasing in value and remortgaging
to give yourself an even greater yield. I’ll let you develop the figures.
Before we get too carried away with enthusiasm, may I now dig deep into my
years of experience an issue a caveat or two. This story is not allegorical.
Once upon a time when people never really thought of inflation, when mortgages
were even cheaper than today, there was a man in Manchester named Steel who
found he could buy rent charges at between 18 and 20 YP and that garages
could be built and let to produce 12% gross return. In contrast, today rent
charges sell at less than 10YP and the last garages I sold produced a 26%
gross yield.
Steel was
a big buyer and an even bigger “gearer”, but he became complacent
and did not watch the market and economy movements. By the time I was instructed
to sell his assets by his liquidator, mortgage loans were at 20% to 22% interest
(if you could get them) and annual inflation was close to that figure. Yes,
I am that old! I sold his rent charges at between 3 and 4 YP and his garages
– where they hadn’t been vandalised or destroyed – sold at
a 33% yield. This is not, dear readers, meant to be an encouragement to buy
garages, but it is a warning that times do change and with them values, interest
rates, rental levels and inflation: not necessarily to our advantage.
Furthermore
it is only those investors who constantly watch their market place, who buy
in the right areas and who maintain their properties well that are going
to prosper. Thinking briefly of buying, and on a different “hobby
horse” of mine, why is it that in almost all our articles in PAN and,
I fear, in your thinking, are we always talking about residential investment?
Is it because you feel more at home with domestic properties? Much of my
professional career has been in dealing with commercial properties in the
shopping, industrial and warehousing fields. You have may well read this
plea from me before. Shops are rather specialised but, nevertheless, don’t
you experience and come to know the month by month development of the secondary
shopping pattern in your area? Have you thought about combining domestic
with shopping investment by looking at shops with flats above? Have you never
thought that well-chosen commercial tenants are much less likely to move
than carefully selected house occupiers? Very frequently, commercial and
shop leases are for longer periods and generally with rent reviews. Almost
invariably the tenants take responsibility for repairs and insurance premiums.
Rent is paid by the tenants as a business expenditure and before tax. We’ve
got the taxman helping again! Almost invariably you can arrange payment of
the rent by standing order. The whole management is easier, so that you may
even be able to dispense with a managing agent altogether or, at least, pay
him a smaller commission. I know how you all hate paying estate agents’
fees! Incidentally, before you ask, most of my family investments are in
shops and commercial properties! Good luck with your purchasing in the new
year and may all of your investments in 2002 be strong, firm, lasting and
rewarding deals.
Copyright
2004 all rights reserved
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