Buy-to-let affordability - challenges and opportunities

The buy-to-let market has many specialist lenders offering a range of products with complex criteria to assist property investors. However, these specialist lenders have struggled the most with their pricing due to the volatility of the swap markets.

This volatility has given buy-to-let mortgage advisers a lot to manage on behalf of their landlords, with rates withdrawn at short notice, rapid increases affecting affordability, increased workloads having to research the market multiple times for each property and slower service from lenders with their own challenges.

The good news is that the market does appear to have settled, and we have seen some rate reductions as lenders have got to grip with new pricing models and more swap rate stability. The affordability challenge, however, for some landlords does remain.

Since the lender’s regulator, The Prudential Regulation Authority (PRA), introduced the buy-to-let affordability rules in 2016, 5-year fixed rates have been extremely popular with many landlords because they often allowed a higher borrowing amount. The PRA requires the affordability to be based on rates rising to 5.5%. However, the rules allow for fixed rates of 5-years or more to be excluded from the projected 5.5% requirement.

With rising interest rates, many of the new 5-year fixed rates on offer have exceeded the 5.5% notional figure. In the residential market, discount rates have become popular as they are much cheaper at the starting point. However, in the BTL market, this does not help how a lender calculates the affordability even if the rate is lower.

The higher notional rate affects new purchasers by dropping the borrowing level that can be achieved. We have also seen it affecting investors who purchased a few months ago with a bridge and are now struggling to raise enough to repay the outstanding loan.

If we look back not that far, property investors secured 5-year fixed rates below 4% with the rental affordability calculated on that sub 4% rate. These same properties will come up for remortgage in the coming months and years, and without seeking the right advice, there is a significant chance landlords could become buy-to-let mortgage prisoners.

When your buy-to-let mortgage ends, a good buy-to-let adviser will assist you in considering your existing lender’s retention rates against the whole of the market and recommend the most suitable new deal to minimise the impact of the rises.

You may also wish to use a rate review date as an opportunity to raise capital to invest in other properties or do work on other properties in your portfolio. Should the parliament bill requiring landlords to bring all properties to an EPC rating of C or above continue as planned, raising capital for property renovations maybe even more important to you.

Buy-to-let advisers have knowledge of some potential solutions available in the market that you may not be aware of. Solutions can simply be the adviser exploiting the criteria differences between lenders or having access to some of the new innovative products launched by lenders.

For example, if you come to the end of your current rate and your existing lender does not offer a suitable retention rate, you may not be aware of the PRA like-for-like rules. These rules allow lenders to choose the rate used to assess a like-for-like remortgage affordability, so there is a variance between lenders and their calculation rate. For example, one lender may use a reference rate of 6.5% and another 5.49%. One lender has waived its affordability requirement completely for like-for-like remortgages with a 24-month payment history.

One area of criteria your adviser may consider is the margins used by lenders in their calculations. Most lenders use 125% for limited companies and basic-rate taxpayers. For higher-rate taxpayers buying in their own name, the rate often used is 145%, but as the lenders do not have to follow a specific PRA rule for this part of the calculation, it can vary. Your adviser can also assist you in considering the limited company route to secure the 125% margin for a new purchase if this helps the affordability.

Many lenders now offer top-slicing, and we may see more of this moving forward. Top-slicing is where either surplus rent or surplus earned income is used towards affordability. With some lenders, this reduces the margin to 110%.

If you are still struggling to make affordability work, you may wish to consider whether the property lends itself to being a holiday let or HMO. Both have potentially higher rental incomes. Alternative calculation options are then available. For example, lenders can use the actual expected income based on market data for a holiday let to meet affordability. A good buy-to-let adviser can talk you through what you need to understand about the mortgages for these property types.

The buy-to-let affordability challenge will remain as we settle into the new rate environment. But having spoken to some of the lenders, the appetite to lend is still strong, and I am really interested in sharing some of the lender's planned innovative products launch into the market in the coming months.