Most of us are probably going to start our property portfolio by buying vanilla buy to lets, and we are probably going to fund these using standard buy to let finance.
A typical buy to let mortgage is probably going to be a 75% loan to value mortgage. The bank will lend 75% against the lower of the purchase price or the valuation, and we will put in the 25% balance..
This means that even if we buy a property cheaply, what we could call below market value (BMV) we’d still only be able to borrow 75% of the purchase price.
For example, we may agree terms to buy a property that is worth £100,000 for £80,000, which is self-evidently cheap, but unfortunately the bank will not lend against the £100,000 value. They will only lend against the £80,000 purchase price.
Assuming it is a 75% loan to value mortgage (some lenders will go to 80% LTV or even 85% LTV but that’s a subject for another time), that raises the question of how will we pay the 25% which the bank is not going to pay?
One thing that we can’t do is to borrow the balance. Most, if not all, and I think it’s all, buy to let lenders will not allow you to use borrowed money to fund the balance.
But they will allow you to use a gift, as long as the gift is provided by specific, qualifying close relatives.
Each lender will have different criteria as to who is acceptable but generally the relative could be a mother, father, maybe a sister or brother, or grandparents.
If they gift the deposit, many buy to let lenders will accept that.
Please note I said gift. There is an expectation that the gift will not be paid back. In other words, it’s not a loan. And the borrower and their family will be expected to document via the solicitors that the monies are a gift and will not be repaid.
So, a gifted deposit is one possibility to fund the balance.
Another possibility is to think about your own assets. Have you got equity in your own home you could refinance out and use?
Sometimes when I ask this, potential or new investors get a little bit twitchy and worried, replying along the lines of “My home is my security, and I don’t want to use the equity in my home’.
But the way I look at it is (and by the way none of this is financial advice), using withdrawn equity as a balance (or deposit) on another property is just moving equity from one property to another. You are not spending the money, the equity doesn’t disappear, you are just moving equity from one property to another.
If you have no other financial resources to access, this can be a great way to get started.
In fact, this is how I got started, I used equity from my own home. If I hadn’t used the equity from my own home, I would not be talking to you today. It can be a very powerful and useful asset.
But, of course you need to use it carefully. I am not saying be reckless with it, you have got to do your due diligence and make sure you spend the equity that you take out of your own home on the right type of property.
But what if you don’t have relatives who can fund the deposit, or you don’t have enough equity in your home (or you don’t want to use the equity in your home)?
Here is a solution to that problem.
Believe it or not, although the bank will take a pretty dim view of you borrowing 25% from a friend or relative, most lenders will not have any objection to you borrowing 100% of the purchase price from a 3rd party.
So, what this means is you could borrow 100% of the purchase price from a friend, relative, or an investment partner, whoever that happens to be, and then refurbish the property, add value to the property, and after 6 months, (you have to wait six months because there is The 6 Month Rule), refinance the money back out.
If you have done your maths right, and you have bought the right property at the right price, and if you have added enough value, then you should be able to refinance out 100% of the money which you used to purchase the property. Then you can pay back you relative, friend, or investment partner all of their money.
An alternative to adding value, or if you think you can’t add enough value, is, during a rising market, wait until values increase to a point where you can refinance and pay back your borrower.
That is a potential solution to get around this problem of where does the 25% come from.
It’s ironic that at the time of refinancing most buy to let lenders will not be interested in the fact that you borrowed 100% of the purchase price when you bought, as long as there is enough equity in the property to justify the refinance.
So they’ll let you borrow 100% but not 25%. That’s banks for you!
With that in mind you might want to forget the 25% and a buy to let mortgage application, go straight for purchasing the property outright using 100% borrowed funds.
But make sure that you do your maths and your due diligence to make sure this deal fully stacks up, so that when it gets to the point of refinancing you really can get all of your lender’s money your money back out when you switch to a buy to let loan.
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