Having mentored a number of aspiring investors, I’ve come to realise that many start out believing that if they buy a property to rent out they will automatically make a profit. Their line of thinking usually follows that if they can buy enough properties they will make a lot of profit, and will then be able to live happily on that for the rest of their lives.
In practice this is not always easy and it certainly isn’t always the case. So what can you do to make sure you make a profit?
If you aspire to achieve success from buy to let then you need to be prepared to do some very careful planning. By this I mean not only choosing the right sorts of properties, but also keeping a very firm control on your income and on your expenses.
I once read an American book that advises readers not to expect a positive cash flow from their rented property for at least seven years. In the author’s opinion, this is how long it takes for rents to rise to create a decent buffer between income and expenses.
This may be the case in the US, but in my opinion in the UK you don’t have to wait that long. I have bought properties, as have many people, which have created a positive cash flow from day one.
However, there is a truth that some new investors may find discouraging. In my experience, you rarely make as much from rented property as you think you will, largely because the expenses are usually higher than most investors anticipate.
Some costs are obvious and can be easily taken into account, but others are readily overlooked. For example, many forget to factor in management fees. These can range anywhere between 5% and 15% of the rent plus VAT.
Finance costs are also significant and tend to be the greatest expense for any investor. Those that follow my blog or newsletters (or who have read my books) will know that I’m a great believer of gearing. This too creates an expense as although interest rates are lower than they have ever been, you still have a reasonable chunk of money going out to service your mortgage each month.
With this in mind you might ask whether you should opt for an interest-only mortgage or a capital repayment mortgage. The answer lies in what you are hoping to achieve from your investments. With regard to expenses though, I am convinced that anybody who wishes to build a sizeable portfolio over a period of time should choose an interest-only mortgage. In my case, this is something that became apparent in practice rather than just in theory when I refinanced my portfolio in order to take out the equity to fund more purchases. I had been paying down the mortgages using capital repayment and this proved to be completely futile when I re-mortgaged all the properties again. (Effectively, I had been paying the bank back and then had to pay them a fee to take my money back out again).
There are also other costs that can be easily forgotten. Property insurance for example, plus other expenses that are sometimes hard to quantify in advance. For example, repairs – how much you spend on repairs will depend partly on the age of the property and partly on the quality of the workmanship in the building itself, but not all repairs will necessarily be apparent right at the start.
Then there are the little niggly things which you may not anticipate… £50 here, £60 there for calling out the electrician, the plumber, etc. These all add up.
Let’s also not forget voids. Even the best properties are vacant from time to time and it’s highly important that you understand your rental market so that you have a good idea of how rentable your property is and how long it will take to rent out again if it becomes vacant.
And finally there are things that many novices don’t budget for – or may not even be aware of – at all. There’s the CP12s – the annual gas safety checks and certificates, Energy Performance Certificates (every property needs an EPC before it can be rented out), letting fees – many agents charge as much as the first month’s rent plus VAT (and if your tenant leaves after 6 months, you can have two of these fees in a year)…
You also have other sundries like the cost of preparing an inventory, the cost of checking a tenant out, the cost of insuring a tenant’s deposit, the cost of renewing a tenancy if your tenant stays on… and so on.
These all add up to a significant sum and will reduce your cash flow. For this reason, it’s highly important to factor in as many costs as you can right from the start and then allow for some more just in case.
Making a profit – especially at the start – isn’t guaranteed, but careful planning and cost assessment can go along a very long way. But be warned, this isn’t easy and can be the downfall of many.
Here’s to successful property investing.
Peter Jones B.Sc FRICS
Chartered Surveyor, Author & Property Investor
By the way… if you’re considering “property” as the path to your own financial freedom, why not take a look at my best selling “The Successful Property Investor’s Strategy Workshop” to help you get started. This is an account of how I put together my multi-property portfolio, starting from scratch and with no money of my own, and how you can do the same. Find out more at: www.ThePropertyTeacher.co.uk/the-successful-property-investors-strategy-workshop.