HMOs started out based on the concept of bedsits – think of the series ‘Rising Damp’ whereby a number of people lived together under one roof, each renting out an individual room. Fast forward a few decades and this concept has become far more sophisticated. Today, there are varying degrees of HMOs as well as different types of HMO tenants.
So, this week we are going to give HMOs some consideration and are going to think about how we should structure our portfolios if we are going to make this type of property part of our strategy.
When it comes to HMO investing, the first thing to consider is your investment area. Not all areas are the same and each area and property type will attract a different type of tenant.
The type of tenant that will be interested in your property will depend on 2 things:
- The area itself
- Where within the locality your HMO is located.
So, for example, if you are looking at targeting health professionals and you know that accommodation is in short supply, then you might set up an HMO close to a local hospital. Or, if you are looking at targeting young professionals, then it’s likely you will choose a town or city centre.
To find out who might be interested in your HMO, you will need to undertake specific local research in your individual area.
You need to be aware that there are also varying levels of HMOs. At the lower-end you have HMOs for those on benefits, mid-range you have HMOs for blue collar workers, professionals or students, and at the higher end you have HMOs that are much like boutique hotels.
You could also set yourself up with an HMO that works as serviced accommodation – or, you could combine these strategies with Rent to Rent. So, as you can see there are many different permutations so you need to clearly define what it is you’re trying to achieve when you start out.
The big drawback of HMOs is that they are heavily regulated. Not only that, but the regulations change constantly. At this moment in time, you need a licence for an HMO if you have 5 or more individuals sharing a property of 3 floors or more. But, later on in the year in October, the rules will change again – after this date, the number of floors will become irrelevant and you will need a licence if there are five people sharing OR, if there are two or more separate households under one roof. So, if there are individuals who are not related or if the property is occupied by more than one family, you would need to be granted a licence.
To get a licence for an HMO, you need to apply to your Local Authority. However, to be successful, you have to meet their criteria and this is not just based around the property but also on your competency as a landlord.
When it come to the property, many things are taken into consideration. For example, whether you comply with fire regulations and if you meet strict minimum room sizes, amongst others. Regulations regarding HMOs do change all the time, so it’s important to stay up to date with the changes because what may be acceptable today might not be acceptable in 5 years’ time.
Regulations also differ from region to region, so do talk to your Local Authority to make sure what the rules are in your specific area.
Also, be warned that some areas are considered Article 4 – this means that if you want to set up an HMO then you need to obtain a licence and planning consent even if, under normal criteria, you wouldn’t normally need it. To give an example, if you wanted to set up a small HMO with 4 bedrooms in an area that’s under Article 4, then you would need a licence or planning consent even though the HMO has less than 5 bedrooms.
Some Local Authorities have put a stop on HMOs but others just want to make sure that they have the right people operating the right types of property. So, don’t let an Article 4 area put you off as it doesn’t necessarily mean you cannot follow your strategy.
The upside of creating an HMO is that the income can be fantastic – when all rooms are rented out. But on the flip side, depending on your target market and where your HMO is actually located, you could find that tenants are rather transitory. This can often mean void periods and agents’ fees, which can limit cash flow.
A downside of HMOs is that they are pretty management intensive. As such, my personal advice is to find a good agent to work with so that your model is effective. Because, when it comes to HMOs, agents are just as important as investment areas, property types and tenants.
Finally, when it comes to finance, a great benefit is that you probably won’t be financing your property using a traditional buy to let mortgage. HMOs are rather like a small business in their own right, so you need the right finance to match this model.
To give you an example, when I went on to finance my HMO, I originally approached a buy to let lender. This was a bad idea – the lender didn’t understand HMOs and neither did the valuer. As a result, they came back with a ridiculous figure. When I changed tactic and approached a specialist HMO/commercial lender, the outcome was very different.
The purchase price of the property was £80,000 and I used £40,000 to convert the property into a 5-bed HMO. So, the total spend was £120,000. When the valuer came to value the property on an income basis, the figure came back at £180,000. At 75% LTV (after deductions for fees, etc.), I was able to borrow out all of the money that I put in. I got out £120,000 having spent £120,000! This is very different to the figure that came back from the buy to let lender.
So, with HMOs make sure you use the right lender so that you end up with a commercial valuation that values the property a cash basis resulting from the rent rather than a valuation based on bricks and mortar.
All in all, HMOs can be a fantastic strategy all round. And whilst yes, there may be frustrations over void periods etc., with the right model, tenants and agent to manage your HMO, it can all be very profitable indeed.
Here’s to successful property investing
Peter Jones B.Sc FRICS
By the way, I’ve rewritten and updated my best selling eBook, The Successful Property Investor’s Strategy Workshop, which 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. For more details please go to ThePropertyTeacher.co.uk