U.K. Buy-to-Let Real Estate: Headed for Mayhem?
Shahram Kordestani, who owns seven U.K. rental homes, has advice for investors eager to join the swelling ranks of landlords: Do so at your peril.
Kordestani, who has been renting homes in London and southeast England for about 12 years, said when interest rates rise, the jump in mortgage payments will hammer buy-to-let investors who have helped push up property values.
“There is going to be mayhem,” said Kordestani, 52. “Whoever pays those prices is going to suffer.”
The loan-to-income cap that Bank of England Governor Mark Carney introduced last month to cool Britain’s housing market does not apply to buy-to-let -- the fastest-growing type of mortgage by value. Economists say a hike in the central bank’s benchmark interest rate or falling prices could result in a repeat of the past, when repossessions of private-landlord homes hit a record high after the 2008 financial crisis.
“It was a mistake not to include buy-to-let investment,” said Rob Wood, a former central bank official who is now an economist at Berenberg Bank in London. “It’s one way in which households can speculate on house prices rising and that is exactly the sort of dangerous debt build-up that Mark Carney was trying to avoid.”
Buy-to-let lending is climbing as Britons rent properties for longer periods. The proportion of amateur landlords -- those who supplement their salaries with rental income -- reached a record 72 percent of the buy-to-let industry in the first quarter after rising by 10 percentage points in the two years through March, according to the National Landlords Association. There are 1.7 million residential landlords in the U.K., the group said.
Lenders provided 2.2 billion pounds ($3.8 billion) of private-landlord mortgages in April, a 57 percent increase from a year earlier, according to the Council for Mortgage Lenders. Almost half of that by volume was refinancing. Gross mortgage lending increased 36 percent to 16.6 billion pounds and loans to first-time buyers gained 47 percent to 3.5 billion pounds in the same period.
Homes bought as rentals made up about 14 percent of new mortgages during the second quarter, according to the CML. Lenders offer a record 637 buy-to-let mortgage products, a 37 percent rise from a year earlier, according to broker Mortgages for Business Ltd.
Lenders “who aren’t into it want to go into it; those that are there want to expand,” said Richard Sexton, a director at property appraiser e.surv. “It’s a different pool to fish in.”
Financing for residential rentals became easier to obtain starting in the 1990s, when the government allowed more companies to provide mortgages. That fueled a 19-fold increase in buy-to-let lending in the decade through the end of 2007, during which U.K. home values tripled.
The market collapsed as the credit crisis spurred a 15 percent drop in U.K. property prices in the 18 months through March 2009. In the first quarter of 2009, there were 1,700 repossessions of buy-to-let properties and lenders appointed 2,400 receivers, who collect rent payments when a landlord is in arrears, according to the CML.
The repossessions, at 0.15 percent, were higher than the 0.12 percent across the wider market, CML said. As the London real estate market began to recover, new lending to U.K. rental-property investors rose by 40 percent in 2011, outpacing new residential lending.
Carney last month introduced limits on mortgages worth more than 4.5 times the borrower’s annual income and mandated an affordability test in an attempt to slow runaway prices in London. Values in the capital surged about 20 percent in May from a year earlier, the most since 2002, the Office of National Statistics said yesterday. U.K. prices climbed 10.5 percent, the biggest acceleration since May 2010.
Kordestani planned to add a seventh property this year in Kingston-upon-Thames, southwest London, only to find that values for properties like the two-bedroom Victorian cottage he sought had jumped by more than 50,000 pounds in six months. Instead, he bought a home in Woking, 15 miles (24 kilometers) from Kingston.
The Bank of England’s new home-loan restrictions follow rules introduced in April after the Financial Conduct Authority’s Mortgage Market Review. The rules, which don’t apply to buy-to-let mortgages, require borrowers to prove they can afford to make payments even if interest rates rise.
One in three of the 50 economists surveyed by Bloomberg predict an increase this year from the record-low 0.5 percent benchmark rate the BOE has maintained since March 2009. Aldermore Bank Plc, which provided Kordestani with his last mortgage, offers a two-year fixed rate buy-to-let loan of 4.08 percent for 70 percent of a home’s value, according to the lender’s website.
The Financial Conduct Authority said it will consider buy-to-let when it reviews the impact of its latest rule changes. The BOE, in its first set of stress tests, will assess the country’s eight biggest lenders on how they would cope if interest rates rose to 4 percent and house prices dropped by 35 percent.
“That is an approach across the housing market, which will allow us to test buy-to-let lending as well as the owner-occupier market,” Andrew Bailey, BOE deputy governor for prudential regulation, said at a June 26 press conference. “It’s not that we’re going to ignore the buy-to-let market in terms of the supervisory oversight and observation.”
Carney told lawmakers on Parliament’s Treasury Committee in London yesterday that the central bank is closely watching the buy-to-let market.
“Current underwriting standards are in line with historical patterns and didn’t warrant a response at this stage,” Carney said.
In London, buy-to-let investors took out more than 750 million pounds of mortgages during the first quarter, which had more than 10 times the impact on prices compared with the government’s Help-to-Buy lending assistance program, according to a May report by Morgan Stanley analysts including Huw Van Steenis. Almost half of the new homes bought in the city last year were buy-to-let, asset manager London Central Portfolio Ltd. estimates.
U.K. home values are rising faster than rents. That pushed down yields, which is rental income as a proportion of the purchase price, to 6.3 percent in the second quarter from 6.4 percent in the previous three months, Mortgages for Business said in July.
The small-landlord market could climb further from April 2015 when changes to government policy will give pensioners control over how they spend their retirement savings. Currently they must invest in an annuity -- an annual income from a life insurer.
That’s “freed up potentially a large flow of additional funds to go into the housing market,” some of which may go to buy-to-let, Wood at Berenberg Bank said.
Kordestani said the number of people entering the private landlord market is making him take a back seat for now.
“Novice landlords think it’s easy money and don’t understand there’s a technique to this,” he said. “I’ve been waiting for things to settle.”
When the BOE does address private rentals, it will opt for a “light-touch regime,” said David Whittaker, managing director at Mortgages for Business. “You’ve got to define the difference between the amateur who needs protecting from himself” and someone who owns 1,000 properties, he said.
Since the loan-to-income rules exclude buy-to-let mortgages, there has been an increase in buyers trying to skirt the measures by pretending to be landlords, according to e.surv, the U.K.’s largest provider of residential property valuations.
“There is a desire to have a decent amount of properties available to rent because a lot of people can’t afford to buy houses,” said Howard Archer, chief euro zone and U.K. economist at IHS Global Insight. “There does seem to be a risk here, particularly if people are trying to exploit the system by seeking fraudulent mortgages.”
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