Is buy to let still worth it?

Many people are questioning whether buy to let is still worth it.

Potential property investors need to be asking this question before they part with a big chunk of change.

There’s no denying the fact that some wealthy individuals out there have made a lot of money from property.

But can the we still make a killing in property or have the good times been and gone?

In this article we’ll take a look at both sides of the argument, and decide whether or not BTL still makes sense.

Let’s start by looking at why BTL has historically been such a popular choice for growing your wealth.

Capital Gains

Quite simply, buy to let is appealing because it is a tried and tested way to enlarge your bank balance. Though, you can make money from rent you receive, the majority of buy to let investors make real wealth from capital gains.

Yes, you can make money from rent, but many investors just use this to cover mortgage repayments. It is house price increases that really move the needle, particularly with leverage applied, which we’ll come to next.

Leverage

Leverage, gearing or simply borrowing money is where the real magic happens with property investing.

If you invest 100K and prices increase 2.5% you’ve made 2.5K. However, if you invest 100K + 300K from the bank and prices also increase 2.5% you’ve made £10K.

In other words, you’ve actually made 10% on your money not 2.5%. You got yourself a quadrupling by borrowing money.

OK you won’t get quite so much due to associated fees but you get the picture.

Low Mortgage Rates

Though the lower the mortgage rate the better. It’s not just quite as simple as that. To get a real feel for whether or not we are getting a good deal we need to compare mortgage rates to inflation or the increase in the price of things.

Mortgages become particularly tempting when they are lower than inflation because banks are essentially paying people to take out mortgages.

Right now average BTL mortgage rates are lower than inflation. In other words, banks are paying people your to borrow money from them. (And here was me thinking bankers were bad guys)!

Income

With buy to let, your tenants live in your house and pay you for the privilege.

How much income you make will depend on how much money you have left over after all outgoings.

Some investors make all their money from income. Some investors don’t make a penny. In fact, some loose money every month because they have to pay some of their bills using other income (usually salary). They figure it’s worth it because they’ll still make money via capital gains.

In other words, as long as house prices go up they’ll be in the money. Typically more expensive properties in nicer areas don’t yield particularly high, but they achieve bigger house price growth.

Alternatively, some investors make all their money through income and next to nothing through capital gains. As an example, Houses of Multiple Occupation (HMOs) typically generate higher rental yields, but they don’t usually make a lot of money from house price growth. This is because the only people who normally buy HMOs are experienced property investors and landlords, and neither of these likes paying over the odds for a property.

The vast majority of buy to let owners make some money from income, but most through capital gains.

Knowledge Required

Property is one of the only investments that just about everybody understands Anybody who’s bought a house before (and that’s a lot of us) has some kind of understanding of the property market. And anybody who’s rented a house before (and that’s even more of us) probably has a decent enough understanding of the rental market.

And even if you are one of the few who hasn’t yet experienced either of those two activities, it’s almost guaranteed that you’ve at least lived in a house and have access to property portals like Rightmove and Zoopla. The amount of research you can do for free using these these platforms is unbelievable compared to just a few years ago. They both come with loads of useful tools. Keywords, school checkers, instant alerts, sold prices, calculators, valuations, to name but a few.

That’s just to say there are a whole host of really compelling reason to choose buy to lets to grow your wealth.

However, like everything in life there are two sides to everything and investing in buy to let is no exception.

Here’s the other side of the argument.

Five reasons why buy to let isn’t worth it anymore.

Capital losses

Contrary to popular belief property doesn’t have to go up in value. Yes, on average property prices tend to go up over the very long term. That doesn’t mean they always do and it also doesn’t mean the type you buy will necessarily increase in price.

In 2008 the global property market tanked. Depending on which source you look at UK property prices dropped somewhere between 15 & 20%. However, this only tells half the story. Plenty of properties in plenty of areas dropped far more than that.

Houses reduced 40-50% were easy to find. Not only that, most people simply took their house of the market because they couldn’t sell them. For a period of time there were a lot of properties out there that were essentially worthless.

A similar state of affairs materialised recently, when new safety regulations following the Grenfell Tower tragedy left many apartment owners with properties that are unmortgageable. This just leaves people with cash as potential buyers, which is a big problem, because cash buyers are few and far between.

More often than not they tend to be people in the industry like property developers and existing landlords. Both of which are looking for massive discounts before they’ll part with their hard earned money. Because of this you can see apartments on the market right now that have already been reduced 30-40% but still can’t be sold .

If you are in it for the long run, then all you have to do is wait for things to get back to normal. However, if you needed the money a.s.a.p. you’d have to sell at a massive discount if you could find a buyer at all.

This is a risk that you really need to think about before you make a purchase.

There’s also an argument that house prices haven’t gone up anywhere near as much as people believe. You can read more about that here.

Negative Equity

As mentioned above mortages are magical things when prices are going up. However, this isn’t the case when they aren’t. Not by a long shot.

If you invest 100K + 300K from the bank and prices decrease 2.5% you’ve lost 10K.

That’s not good because the equity in your house is now only worth 90K but you need to repay 100K to the bank.

Even worse, what if you invest just before the next big crash.

Invest 100K + 300K from the bank and prices decrease 30% you’ve lost 120K.

So your 400K house is now worth 280K, you have no equity left and you owe the bank 300K. That means even if you did manage to sell your house you’d still owe the bank 20K.

Worse still, things that impact the property market have a tendency to impact jobs too. Loosing all your money is one thing, but loosing your job at the same time could be devastating. Imagine, owning a worthless house and being unemployed but still having to find money to meet mortgage payments.

Yes, the probability isn’t great, but that doesn’t mean it couldn’t happen. It happened to plenty of people in 2008.

Mortgage Rate Increases

Historically speaking mortgage rates are somewhere near average, but its not long ago that they were much lower. And that’s a problem.

You see mortgage rates going up can severely impact BTL investment returns. Here’s an example.

You pay £250 per month in mortgage repayments on 100K at 3%, but that increases as follows as your rate goes up:

• 3% / £250
• 4% / £330
• 5% / £417
• 6% / £500
• 7% / £583

It won’t take too much of an increase to mean a lot of property investors need to use their salary to help fund their expenses. Insurance, maintenance, certification, letting agents and the like all cost money.

Vacant Periods

New property investors often fail to account for vacant periods in their calculations.

Even hot properties in hot areas need some time between tenancies and any time between tenancies means the money stops coming in.

Typically, smaller properties let quicker, but have a quicker turnover. Larger ones take longer to find suitable tenants but when you find them they tend to stay longer.

Most tenant’s don’t like people they don’t know coming into their home. After all, it is where they live so who can blame them?

From a landlord’s point of view, letting potential tenants view a spotless tenantless property makes sense because quite frankly it will be easier to let out. Let’s face it, most of us are a bit messy really.

If there’s no tenant in the property there is no money to pay expenses. This has an impact on the money you make and your investment return.

What are the main alternatives to buy to let?

I’m pretty sure in days gone by, property investment really was worth it for various reasons. Faster price rises and more favourable legislation certainly made a difference. However, I think there’s another reason it was more worthwhile in the past than it is today.

There wasn’t any strong competition for your money. Let me explain.

Even if you go for a fully managed buy to let in a city centre, you will still have work to do. As a minimum you’ll have to:

• Source a property
• Choose a letting agent
• Find a solicitor
• Deal with taxes
• And deal with emails. (Decisions just have to be made).

And there are risks involved. We’ve already talked about what happens if prices don’t go up quite as much as you hoped or worse still there is a fully fledged crash, but there are other risks.

Bad tenants spring to mind here. Yes, there’s various types of insurance to help with this kind of thing, but ask any landlord who’s faced it. You just about always loose money and even if you don’t, your stress levels are likely to go through the roof.

Contrast that idea with investing in a global index fund. With a good brokerage account you can easily invest in thousands of stocks in one click through products like iShares MSCI ACWI ETF or Vanguard FTSE All-World UCITS ETF.

You are then invested in over ninety percent of the investable market with one click. For that click, you get little pieces of all the businesses around that world that matter (rather than a single property on a single street in the UK!)

The right index fund is tax efficient, cheap and totally and utterly stress free. Yes, stock markets have a tendency to crash from time to time just like housing markets. As long as you are in it for the long term global stock market has always recovered.

Add to that the fact that you’ve always been able to sell even at market troughs. Try selling a house during a crash. It is likely to take months or even years if you manage it at all.

Back in the day, “normal people” just didn’t have access to these kinds of products. In all likelihood you would have been stuck with something very expensive and very tax inefficient.

Not any more. Anybody can put a strong globally diversified investment portfolio together with a couple of mouse clicks.

And don’t forget. In reality, buy to let only really provides decent returns with leverage applied i.e. you borrow money. You don’t do that when investing in index funds, but still get a decent return.

(We’ve compared brokerage accounts here if you don’t already have one and recently talked about investing in stocks and bonds in a bit more detail here & here if this topic is new to you).

Is buy to let still worth it – the bottom line

Will most people make money from investing in buy to let? Probably. Will those same people definitely have work to do? For Sure.

But you could simply your life by investing in an index fund. On average UK property goes up about 2% above inflation, whereas global stocks go up 5%. Applying leverage evens the game but with that you are taking on risk and at least some work.

With an index fund you just sit back, relax and add money to your account whenever you have it.

If you love property and aren’t afraid of a little hard work then by all means go for it. Otherwise you might be better looking at index funds.