12:07 PM, 16th May 2012, About 10 years ago 6
“How much can I borrow?” is a question I am asked on a daily basis and thought I would assist by creating a written reference point.
The first thing to bear in mind is that Lenders perceive a buy to let mortgage as a self funding commercial business proposition with the rental income covering the loan repayments. Buy to lets are an “off the shelf product” very similar to residential mortgages, but are not regulated under the FSA in the same way and do not normally require your personal income to cover the loan repayments.
This is how property investors are able build a portfolio of properties without having to stop when they run out of personal income to service the mortgage repayments.
Here is some industry jargon that lenders use to assess the maximum loan amount on a property:
Max LTV – max Loan to Value. This is the percentage of the purchase price or property value (whichever is the lower) that the loan amount must not exceed.
Rental income – The monthly rental income a property should achieve as assessed on a valuation survey
Interest cover – This is the percentage by which the monthly rental income of the property must exceed the monthly interest only payments.
Pay rate – The interest rate applied to the mortgage to calculate monthly payments
Notional rate – An alternative to the pay rate used only by lenders to assess maximum borrowing. This is normally where the pay rate is considered to be significantly below the rate you would pay after the initial promotional rate expires.
Stress testing – This is how lenders us the above information to assess the amount you can borrow.
Now for the basic calculations:
Maximum Loan amount based on monthly rental income:
£ Rental income x 12(for annual rent) divided by the Pay or Notional rate % divided by the Interest cover %
e.g. Rental income = £500 Pay rate and notional rate are both 5% Interest cover = 125%
Maximum loan based on rental income is: (500×12) divided by 5% divided by 125% = £96,000
How to work out the amount of Rental income that is required:
Purchase price =£150,000 Max LTV = 75% Pay/Notional rate = 5% Interest cover = 125%
Max Loan = Purchase price x Max LTV = £150,000 x 75% = £112,500
Min Rental income required = £112,500 divided by 12 to convert into a monthly figure x Pay/Notional rate% x Interest cover%.
Therefore £112,500/12 = £9375 x 5% = £468.75 x 125% = £585.94 min monthly rental income for a £112,500 loan
Although the rental income should exceed the monthly interest only mortgage payments there are obviously going to be further costs over and above the deposit required such as maintenance, insurance, void periods, letting costs etc.
Therefore even if the total amount you can borrow is not normally limited beyond the lenders Stress Testing and deposit required, you should keep a reasonable percentage of your investment capital back as liquid cash for security against potential unforeseen costs or interest rate rises.
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