Sun Times: Low rents deflate the UK buy-to-let bubble

The Sunday Times
October 30, 2005

Low rents deflate the buy-to-let bubble
By Clare Francis

Potential investors are steering clear of the rental market as returns
fall to their lowest level for three years

MANY mortgage brokers and lenders are convinced that the buy-to-let
boom is over. Investors are not fleeing in droves, but market
professionals report a drop in those buying new property as novice
landlords have second thoughts.

Rental yields -- income as a percentage of a property's value -- have
fallen to their lowest for three years, according to Landlord
Mortgages, a broker, making it harder for investors to cover their
costs.

As profits are squeezed, many people who opted to become landlords in
the past couple of years are finding it is not as easy to make money as
they thought.

Melanie Bien at Savills Private Finance, a broker, said: "Times are
hard for buy-to-let investors. Rental yields have fallen in some areas
and tenantless periods continue to be a problem. The experienced
investor with a portfolio of dozens of properties is better cushioned
to weather this harsher climate than the new landlord."

The buy-to-let boom was propelled by the rising property prices of a
few years ago, coupled with a prolonged downturn in the equity market.
Thousands of people decided to try their hand at being landlords
despite having no previous experience or in-depth knowledge of the
property market.

The number of buy-to-let mortgages has risen twentyfold since 1998,
according to the Council of Mortgage Lenders. But those who jumped on
the bandwagon recently will find it harder to make money than they
expected.

Property prices are still rising in most areas, albeit at a slower rate
than for the past five years, so for many landlords the overall value
of their investment is unlikely to have fallen. The bubble may not have
burst, but it seems to be deflating.

House prices have been rising faster than rental income, making it
harder for new landlords to earn enough rent to cover mortgage
payments. Research from FPD Savills, an estate agent, found that about
one in six landlords were in this position. The surge in popularity of
buy-to-let has also led to surplus supply in some areas.

Simon Tyler at Chase de Vere Mortgage Management, a broker, said:
"According to Paragon Mortgages, the average price paid by a landlord
for a property is up by 13.7% over the year to September, while rents
are up by 10.5%. Although still apparently healthy, these figures point
to a marked reduction in the yields that new landlords can earn."

Traditionally, buy-to-let mortgage lenders required monthly rental
incomes to total at least 125% of mortgage payments. So if your
payments were =A3500 a month, you needed to collect at least =A3625 rent.

When working out how much you could borrow, calculations were based on
the standard variable rate, which was higher than the mortgage rate.
Borrowers usually had to put down a deposit of at least 25%. This was
to provide a buffer to protect against rising interest rates and
periods without a tenant.

However, because house- price growth has outstripped the rise in rental
income it has become increasingly difficult for borrowers to meet the
requirements. So lenders have relaxed their criteria.

Some now require the rental income only to equal the mortgage payments;
others will accept a smaller deposit. It may be easier to get a
mortgage, but borrowers are more exposed to changing market conditions.

Bien said: "There is a danger that inexperienced landlords will be
tempted to buy properties where the rent barely covers the mortgage.
How can you expect to make a profit once you allow for maintenance
costs, the price of an agent or times without tenants?"

Many inexperienced investors have also found there is more to being a
landlord than just buying a property and finding a tenant.

When he bought a new home two-and-a-half years ago, Martin McNulty, 36,
chose to rent out rather than sell his two-bedroom flat in Finsbury
Park, north London. However, he underestimated what being a landlord
involved.

McNulty, who runs Merjis, an online consultancy business, said: "I
didn't fully appreciate the hassle. It's the tedious things like annual
gas inspections, the fact that you need to keep a receipt for
everything you spend, and the costs when changing tenants.

"Last year the rent just covered the costs of redecorating, fixing the
boiler and paying the mortgage."

No surprise, then, that the number of new landlords is falling. Lee
Grandin at Landlord Mortgages said: "The key change this year is that
experienced investors are still very active, but first-time landlords
are dwindling."

This looks set to continue as good investment opportunities become
harder to find. The recent weakness in the housing market has been good
for buy-to-let investors. It has knocked confidence, making potential
buyers hold off and this has helped boost rental demand.

It has also helped investors wanting to increase the size of their
portfolios to get a bargain. A shortage of buyers has been a big
problem for vendors. Many have been forced to accept offers below the
asking price -- but this could be changing.

Estate agents are reporting a rise in activity as fears of a
house-price crash recede and buyers re-enter the market. This may make
it harder for investors to negotiate large discounts on asking prices.
It could also become harder to find tenants because rental demand could
decrease if tenants look to buy instead.

However, buy-to-let specialists stress that the market remains strong.
John Heron at Paragon Mortgages said: "Most of the rental demand comes
from those for whom home ownership is not a realistic option. At the
margins there may be people who have not bought because of fears about
house-price falls, but this has not driven the private rental market,
so I expect demand to remain strong."