Understanding buy to let mortgages

Many people dream of owning a property to let out to help boost their retirement income – but being a landlord has become much tougher in recent years.

A series of tax and regulatory changes have had a big impact on buy to let property owners, adding substantially to their costs. Despite this, rental properties continue to appeal to those looking for a tangible investment with the potential to provide both income and capital gains.

Finding the right buy to let mortgage is vital for landlords, as keeping outgoings to a minimum can help ensure they hang on to as much of their income as possible. Here, we explain everything landlords need to know about buy to let mortgages.

How do buy to let mortgages work?

There are several differences between residential and buy to let mortgages – here are some of the main ones.

How affordability is assessed and how much can you borrow

When you take out a normal residential mortgage, lenders will look at your income and outgoings to help them work out how much you can afford to borrow. With a buy to let mortgage, however, your lender will usually want to know how much rental income the property is likely to generate, although some will want to look at any other sources of income you have too. Lenders typically look for rental income to be equivalent to at least 125% of your mortgage payments, or sometimes more than this.

Fee-free mortgage broker London & Country Mortgages has a useful buy to let mortgage calculator to help you work out how much you might be able to borrow based on your expected rental income.

The criteria for a buy to let mortgage

You may be able to apply for a residential mortgage with just a 5% or 10% deposit but if you want to take out a buy to let mortgage, you’ll usually need a deposit equivalent to at least 20% or 25% of the property value.

How the mortgage is repaid

Buy to let mortgages are usually arranged on an interest-only basis, which means you only pay back part of the interest you owe each month and none of the capital. At the end of the mortgage term, the property must either be remortgaged again, sold so the capital can be repaid, or you’ll need to have built up enough savings to clear your mortgage.

Most residential mortgages, however, are arranged on a repayment basis, which means you pay back some of the interest and some of the capital each month, so that by the end of the mortgage term there’s nothing left to pay. You can also arrange your buy to let mortgage on a repayment basis in a similar way if you want. This means your monthly payments will be higher, but you will be paying some of the money off your mortgage each month.

Buy to let mortgage rates and arrangement fees are often higher

Buy to let mortgage rates are usually slightly higher than standard residential mortgage rates. This is because lenders consider this type of mortgage a higher riskier than a standard residential mortgage as you might not always be able to find tenants, or your tenants could fail to pay their rent on time. However, according to research by financial website Moneyfacts.co.uk average two and five year fixed buy to let mortgage rates have fallen since the start of May and are currently at their lowest levels since the beginning of this year.

The specific rates you’ll be eligible for will depend on the size of the deposit you’ve got to put down. As a general rule, the bigger the deposit, the better the buy to let mortgage rates you’ll have access to.

Arrangement fees for buy to let mortgages also tend to be higher than on residential mortgages and are often expressed as a percentage of the mortgage value rather than a flat fee. When choosing a mortgage, make sure you factor arrangement fees into your sums rather than focusing purely on the headline mortgage rate alone, as they can substantially bump up the overall cost. For example, if you wanted to take out a £150,000 buy to let mortgage with a 1.5% arrangement fee, the fee would set you back £2,250.

Is it harder to get a buy to let mortgage due to coronavirus?

Several lenders temporarily withdrew from the buy to let market when lockdown measures were announced, but many of these have now re-launched their buy to let mortgage ranges, so there’s currently a wide range of deals to choose from, including for those wanting to become landlords for the first-time.

According to research carried out by Moneyfacts.co.uk, around 65% of buy to let mortgage deals, equivalent to 1,311 products are accessible to first-time landlords, whereas a year ago, around 61% of the buy to let market in February 2020  catered to first-time landlords.

Eleanor Williams, finance expert at Moneyfacts.co.uk, said: “The mortgage market as a whole remains an evolving and complicated landscape, as the ongoing impact of the recent lockdown has affected product choice and rates. However, as our latest research shows, the buy to let sector has adapted well and there are indications that landlords may have cause for positivity.”

Can I remortgage my buy to let property?

Yes, if you already have a buy to let mortgage, but haven’t reviewed it for a while, it’s well worth seeing if you can remortgage to a cheaper deal.

Doing so could help you reduce your outgoings and might enable you to free up extra funds so that you can improve your property or add to your portfolio. Savings from remortgaging can be substantial.

For example, according to Moneyfacts, the average two-year buy to let mortgage rate is 2.28%, compared to a typical standard variable rate of around 4.5%. The standard variable rate (SVR) is the rate you usually roll onto automatically when your mortgage deal finishes.

Someone with an £150,000 buy to let interest-only mortgage with 15 years left to run would currently be paying £562 a month on a 4.5% SVR, but if they were to remortgage to a 2.28% mortgage deal, these payments would fall to £285 a month, a saving of £277 a month or £3,324 a year. Bear in mind that this example does not factor in mortgage arrangement or legal fees which will eat into these savings.

How do I get a buy to let mortgage or remortgage?

You can either approach lenders directly to see which buy to let mortgage deals they can offer you, or use a mortgage broker to help you find the best deal.

Our free mortgage comparison service allows you to compare buy to let deals from the whole of the market and find out how much they could save you. If you’re looking for a buy to let remortgage deal and are nervous about switching lenders, it is still worth filtering for deals from your existing lender (which you can do easily using our comparison tool) so you can see how much you could save from remortgaging with them.

Alternatively, if you need any help or advice, we’ve chosen to partner with Fluent Mortgages to offer free, expert advice. They’ll be able to talk you through the options available to you and recommend which buy to let mortgage is likely to be most suitable for your individual needs.

What else do I need to consider if I’m thinking of becoming a landlord for the first time?

Remember that you’ll need to have savings available to cover your mortgage costs in the event that you have ‘void periods’ when you don’t have any tenants living in your property.

Bear in mind though that there will be maintenance costs to pay too, as landlords are responsible for keeping the property in a good state of repair, and you’ll also have to pay a letting agent to manage the property and advertise it when necessary. Agents typically charge between 10% and 20% of your monthly rent so it’s worth getting a few different quotes and negotiating before you choose one.

Despite the costs involved, according to Moneyfacts.co.uk demand for rental properties remains high. Eleanor Williams, finance expert at Moneyfacts.co.uk, said: “For investors contemplating an expansion into the buy to let sector, demand from tenants is booming and while it remains difficult to earn a decent return on many forms of investment, it’s understandable why rental property could be a tempting option. Those considering taking the plunge, or those who may wish to discuss how to manage their existing portfolios, would do well to secure the up-to-date market knowledge, advice, and support of a qualified broker, who should be able to take their plans and circumstances into account.”

How much tax do I have to pay on my rental income?

Rental income is taxed in the same way as any other income, so the amount you’ll pay will depend on the level of income you receive (after deductible costs, such as maintenance and repair costs, letting agent fees, council tax and landlords’ insurance) and how much other income you bring from your work or other sources. Depending on which tax band your combined income falls into, you’ll either pay no tax, or you’ll be a basic, higher or additional rate taxpayer and must pay income tax at 20%, 40% or 45% respectively.

Will I be eligible for any tax relief on my costs as a landlord?

Landlords have been hard hit by several tax and regulatory changes in recent years which have reduced the financial benefits of owning a rental property.

For example, landlords used to be able to claim full tax relief on mortgage interest payments at their marginal rate of tax, whether that was at the higher, additional or basic rate. They can now only reclaim tax relief at the basic rate, regardless of the rate of tax they pay.

Capital gains tax (CGT) rules have also changed. CGT is payable when a buy to let property is sold and is calculated on any profits made when you sell the property that exceed the CGT allowance, which for the 2021/22 tax year is £12,300. Basic rate taxpayers must pay 18% in capital gains tax on gains above this threshold, whilst higher rate taxpayers must pay 28%.

Homeowners who previously lived in a property but subsequently let it out don’t have to include the years they lived there when working out their capital gains tax bill. Before 6 April 2020, landlords could also claim tax relief on any gains made in the final 18 months of ownership, whether or not they were living at the property, but this has now been reduced to just the final nine months.

Are Stamp Duty costs the same if you’re buying a property to rent out as they are for a property you plan to live in?

Stamp Duty costs are higher if you’re purchasing a property to rent out rather than as a main residence. For example, in England and Northern Ireland, you must pay standard Stamp Duty rates plus a 3% surcharge on top.

The Chancellor Rishi Sunak announced in July that no Stamp Duty would be payable on properties in England and Northern Ireland worth up to £500,000 until 31st March 2021, in a bid to kickstart the property market following the coronavirus lockdown. He has since extended this deadline to 30th June, after which no Stamp Duty will apply on the first £250,000 until 30th September.

However, if you’re buying a second home, or a property to rent out, you’ll still have to pay the 3% surcharge on top of the stamp duty holiday rates. This means that during the Stamp Duty holiday period, you’ll pay Stamp Duty at the following rates:

  • Up to £500,000: 3%
  • On the portion from £500,001 to £925,000: 8%
  • On the portion from £925,001 to £1.5m: 13%
  • Above £1.5m: 15%

Stamp Duty rules are different in Scotland and Wales. Buyers of buy to let properties in Scotland won’t have to pay the standard residential rates of stamp duty on the first £250,000 of the total purchase price, but they will still have to pay a 4% stamp duty surcharge. Stamp duty thresholds in Wales will remain unchanged for those buying second homes and buy to let properties, and buyers will also have to pay the extra 3% surcharge.

Find out more about how Stamp Duty works and the recent stamp duty holiday announcements in our article Stamp Duty explained.

Have you recently taken out a buy to let mortgage or remortgaged and saved money? Or are you planning to do so in the next few months? If so, we’d be interested in hearing from you. You can join the money conversation on the Rest Less community or leave a comment below.

Links with an * by them are affiliate links which help Rest Less stay free to use as they can result in a payment or benefit to us. You can read more on how we make money here.

See deals from the whole of the market to find out what you could save. Or, if you’d like to talk to someone, you can get high quality, fee-free mortgage advice from Fluent – our experienced broker partner. Call 01204 899582 or request a callback below.

Mortgage not expiring for a while? Make sure you don’t forget – set up your free reminder.


Loading comments...

    Leave a reply

    Thanks, your comment has been saved. We will review it shortly, check back soon.

    Sorry, there was a problem saving your comment. Please refresh and try again.

    Get the latest ideas, advice and inspiration​

    No spam. Just useful and interesting stuff, straight to your inbox. Covering finance, learning, jobs, volunteering, lifestyle and more.

    By providing us your email address you agree to receive emails and communications from us and acknowledge that your personal data will be used in accordance with our Privacy Policy and Terms and Conditions. You can unsubscribe at any time by following the link in our emails.

    Enjoying Rest Less? Help us reach more people like you

    Leave us a rating Want to tell us something?