Bacall and Associates Tips – Why you’ll soon need a six-figure salary

Why you’ll soon need a six-figure salary if you want to buy-to-let

As buy-to-let lenders drastically tighten their loan criteria, experts predict that soon only those with very high incomes will be able to borrow to invest in property.

The Bank of England is driving the trend with proposals to force lenders to radically scale back on the risk – and volume – of lending.

Major lenders Nationwide and Barclays have responded by increasing the amount of rent that landlords need to charge, relative to their mortgage costs, before they will grant loans.

Nationwide is the second-biggest buy-to-let lender after Lloyds Banking Group. Barclays is also among the top five lenders.

Both now require landlords taking out new buy-to-let mortgages to receive rent equivalent to 145pc of their mortgage costs. This is up from a more standard ratio of 125pc or 135pc.

The change will hit those who need bigger mortgages in order to go into buy-to-let, making the investment entirely impossible for many.

The impact in low-yielding areas – where property prices are high compared to rents, such as London – will be especially severe.

But while buy-to-let will thus be ruled out for many middle-class investors, those with very high salaries will still be able to leapfrog some of these requirements, and borrow enough to buy a typical property – even in London.

How does it work?

Under new rules, banks will apply a more complex gauge of borrower affordability which will take into account landlords’ earned incomes, as well as rent.

To illustrate how Barclay’s “means testing” criteria will work, broker John Charcol ran a series of theoretical applications.

A landlord getting a 75pc mortgage with a five-year fix at 3.49pc on a property worth £300,000 would need to be charging rent of at least £1,125 each month.

They would also need to provide evidence of other income, to show that they could afford their existing residential mortgage.

While someone earning close-to-average income of £30,000 would not qualify, both a high earner – with a £50,000 salary – and a very high earner – with a £100,000 salary – would be able to get a mortgage.

Within London the picture is even tougher.

A £500,000 property, bought with the same 75pc mortgage at the 3.49pc rate, but charging a rent of £1,562, would be out of reach for all but the highest earner.

The calculations are based on the assumption that each landlord would have another, residential mortgage of a reasonable, affordable value for their income, which the bank would take into account when deciding whether they were eligible for the extra buy-to-let borrowing.

What’s happening to the buy-to-let market?

Buy-to-let is changing.

In March Bank of England announced that it will compel buy-to-let lenders to take into account other factors when deciding whether or not they can lend to a landlord.

These include increased tax due to be paid on mortgaged buy-to-lets, an issue which is going to become increasingly important from next April.

From next year landlords will no longer be able to deduct their mortgage interest payments from their rental income before calculating their tax bill, meaning that they will essentially be paying tax on their turnover, not their profit.

Basic-rate taxpayers will be lifted out of the effects by a 20pc reduction, but higher and additional-rate taxpayers with large mortgages are likely to have their profits significantly reduced.

How will new tax reduce your profit ?

Buy-to-let has historically been an investment option for mainstream investors seeking income and growth, but this seems set to change, brokers warn.

They say the market is likely to continue to move in this direction – with more lenders starting to take a look at earned income when assessing someone’s suitability for a buy-to-let mortgage.

Simon Collins, of mortgage broker John Charcol, said: “Barclays tended to be very good if you’ve got a low yield and high earned income.

“I expect that from now on, even more of their buy-to-let will be done on an earned income basis.”

What are the alternatives?

Experts say landlords without the necessary high income or rental cover will turn to other types of investment, such as holiday lets or semi-commercial property.

Some very small landlords, who have large mortgages and relatively small earned income, might start to sell up.

David Cox, managing director of the Association of Residential Letting Agents said: “We’re expecting to see an increase in the number of landlords selling their buy-to-let properties over the next 12 months, as a result of the introduction of the changes to mortgage interest relief, which will trigger financial difficulty for landlords.”

Or, increasingly, buy-to-let will be the preserve of those who don’t need mortgages, or who only need small loans.

Another alternative for those who want to stay in the market is to look to areas where yields are higher – such as the North West or Midlands.