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Let’s take care

Buy-to-let is flourishing but brokers must ensure they cover all the advice angles with clients or there could be trouble ahead, says Andrew Frankish

There is no doubt that the buy-to-let market has soared in recent years and continues to be a strong source of business for many advisers, with property prices and rental income conspiring to ensure buoyancy in the market.

Rental yields and house prices continue to increase in the first half of 2006 and recent survey results from Mortgage Express show 39% of its buy-to-let customers intend to increase their portfolios.

As the ripple effect of rising prices continues to spread out from London, buy-to-lets in the North are currently top choice for investors.

The trend toward buy-to-let has been boosted by a stock market that has plummeted in popularity with in-vestors, having recently suffered its worst week in three years.

And it is underlined by a poll recently commissioned for the Homebuyer Show North in Manchester which reveals that more than 70% of investors are relying on buy-to-let for their future wealth, with less than 2% opting for stocks and shares.

The Association of Residential Letting Agents says investor landlords remain committed to the long term, with the life expectancy of their investments averaging 16 years.

More importantly, almost half of these investors, 45.8%, are aiming to create nest eggs, with 43.2% hoping to benefit from both rental income and capital gains. A mere 3.5% admitted to hoping for short-term capital gains while only 7.5% have invested solely for income.

Recent buy-to-let growth must be considered even more impressive when you take into account the warnings the financial services industry has put out concerning the potential gains the buy-to-let market has to offer.

Our industry is experienced enough to highlight to buy-to-let customers the risks involved in this type of endeavour. But there is another concern we have largely overlooked that could come back to haunt us.

The implications buy-to-let mortgages have on clients’ future borrowing are often understated and this has particular significance when it comes to borrowing for their own residences.

Despite all the information available to borrowers about the risks involved in buy-to-let, little reference can be found as to how future borrowing could be affected.

For example, a Financial Services Authority factsheet highlights the dangers of increasing costs, reducing rental yields, falling houses prices and poor tenants. But no mention is made of how a buy-to-let portfolio might affect future borrowings.

To investigate this further we must examine how an institution looking to lend on a main residence would consider the existence of a single or multiple outstanding buy-to-let mortgages.

One important point to make is the way buy-to-let mortgages are registered for credit reference purposes.

Giving in to the temptation to not declare an existing buy-to-let is foolish as it will show up on credit reference searches. And credit reference files are now detailed enough to indicate the nature of any existing mortgages, whether they are residential or buy-to-let.

Traditional prime residential lenders such as Nationwide and Halifax require a rental income on any buy-to-let mortgage to be 125% of the interest payment at base rate or higher. But they differ when it comes to the documentation required to provide evidence of the income.

Halifax requires an ARLA-registered letting agent to confirm the rental income amount in writing while Nationwide might also request copies of signed rental agreements from tenants. As always, credit scoring and LTVs also play an important part in the process.

But more specialised lenders such as BM Solutions and UCB Home Loans offer buy-to-let schemes that are far more flexible in their approach.

For example, if the credit reference search shows the existing mortgage commitment as buy-to-let the application will be accepted without the need for rental confirmation, although the borrower can expect the interest rate the lender offers to reflect this. Of course, the irony of this is that UCB and Nationwide are part of the same group, as are Halifax and BM Solutions.

Given this background information, how confident can we be that we are offering appropriate advice to customers looking to take out buy-to-let mortgages – particularly first-time investors?

We need to be confident we are not just discussing the implications of taking out buy-to-let loans but that we are also documenting these conversations to protect us from claims in the future.

But if we take this model as an example of best practice, can we state with any certainty what effect it will have on the number of clients entering this market?

It is unlikely that portfolio lenders will be affected although it may pose a risk to first-time investors. In fact, taking this criterion into consideration, timing is essential. Using this model, if a customer is looking to move their main residence at the same time as they have no tenant in their investment property it could affect which lender will consider lending on the property.

Due to the differing criteria used, it is unlikely that borrowers will be precluded from getting mortgages altogether. But it could lead to them being granted a less favourable interest rate which could lead to a complaint that the adviser involved failed properly to explain this issue at the outset.

So how is this likely to affect the market? The simple answer is that we are already seeing a growing number of lenders entering the market, which is causing a flurry of excitement in the intermediary community.

These new lenders are looking to streamline their processes and simplify lending criteria, which should mean more flexibility when it comes to their lending policies.

The situation is further complicated when we factor in the effect of overseas property purchases. With more people borrowing on their main residences to fund holiday homes abroad, do we need to consider the impact this may have on future borrowing?

Traditionally, these funds are borrowed from lending institutions outside the UK and secured on the overseas home itself. But even where the overseas property is intended by the borrower to be self-sufficient and let out to holiday-makers and potential long-term tenants, there is no guarantee of income or return on investment.

Should the industry not be arguing that this borrowing ought to be included within the aggregate borrowing an individual has to their name?

The answer to the conundrum lies in the fact that we are seeing an in-creasing number of borrowers taking advantage of the equity they have in their UK properties by remortgaging to provide funds for their overseas holiday and retirement homes.

The implication is that if this increased UK-based borrowing is taken into account for buy-to-let purposes in this country, it makes sense to include overseas borrowing too.

As things stand, systems are not sufficiently advanced to allow global borrowing to be logged for credit reference purposes.

Of course, the only implication that matters is what happens in practice. And in reality this is unlikely to have a detrimental effect on the buoyancy of the buy-to-let market.

The fact is that we live in a buy now, worry later culture whereby if people can find a reasonably pain-free way of satisfying their dreams and aspirations, they will do so. The implication of this is that the buy-to-let market will go from strength to strength.

Coupled with this is the fact that there remains much scepticism when it comes to stock market investments as a means of bolstering faltering pension provisions. All this translates into a burgeoning culture of more investment properties for more people.

Nonetheless, we also live in a consumer complaints culture whereby intermediaries must be aware of the likelihood of being accused of giving incorrect or inappropriate advice.

To guard themselves brokers must take every possible step to document everything their buy-to-let clients have been made aware of.

Andrew Frankish is managing director of Mortgage Talk


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