How to calculate the amount you can borrow on a buy to let mortgage


Neil Patterson - Published on 16/05/2012
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“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

Cautionary note:

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.

If you would like to add your own requirements and search for the most popular available Buy to Let products please click here

For more articles like this please see our Buy to Let Explained section

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Comments

  • Trevor Lazenbury says:

    If I am reading the above correctly, subject to the loan to value criteria, a £500 rental income would secure a £96,000 loan and £585.94 would secure a £112,500, then I must be getting my loans from the wrong lender.

    Plus from a serviceability point of view I would envisage that the borrower would have to input money to ensure that the borrowings would be serviced.

    My experience is that a £500 rental income using one of the banks is likely
    to secure borrowings of circa half of the above sums due to rental cover that they now require.


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  • Member of The Landlords Union - Click Here for Details

    Hi Trevor,
    As always the lender and product you use is individual to your own circumstances, property type and individual lender’s criteria. Without knowing your circumstances I could not comment on why you are being restricted on the amount you can borrow.
    In this example I have used a fairly representative level of stress testing used by many of the larger buy to let lenders such as The Mortgage Works and BM Solutions for a standard 75% LTV loan. At lower loan to values it is possible to borrow a larger amount against the rental income, but equally many products with higher pay rates and or LTVs will be stress tested at a higher level.
    In the example of a £96,000 loan with a pay rate of 5%, rental income of £500pcm and assuming a product fee added to the loan of 2.5%. The monthly interest only mortgage payments would be £410 leaving a surplus of £90pcm which could be used towards other running costs which would again depend on the property and other services used such as letting agents.
    This obviously does not take into account the reversion rate which would have to be factored in to any decision to borrow.
    Under our Due Dilligence Tab we have a “Buy to let viability calculator” and a “Property portfolio review calculator” which are free to use and I am sure you will find useful in assessing the costs, returns and break even points using your own figures.
    Our Buy to let calculator will also show you the more popular lenders and products with a break down of how much you can borrow on each.
    I hope that is of assistance.


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