Buy-To-Let VS Residential Mortgage

Nikka Sulton

Buy-To-Let VS Residential Mortgage

Distinguishing between buy-to-let (BTL) and residential mortgages is crucial. While they share similarities, they serve distinct purposes. Residential mortgages are for homeowners, whereas BTL mortgages are for investment properties. Explore these differences and gain insights into the workings of buy-to-let mortgages in this comprehensive guide.

For almost all buy-to-let mortgages are..

1. Typically, your mortgage payments will consist of interest-only payments, with the full loan amount due at the end of your mortgage term.

Similar to standard mortgages, you have the option of choosing between two mortgage types: repayment or interest-only. With a repayment mortgage, it will be fully paid off by the end of the mortgage term.

However, the majority of landlords prefer interest-only mortgages. Opting for this means your monthly payments will be lower, but they won’t reduce the loan amount. Consequently, at the end of the mortgage term, you will still owe the initial borrowed amount.

Typically, landlords with properties on interest-only mortgages tend to sell the property at the end of the term. Hopefully, the property’s value has appreciated, allowing them to pay off the loan and make a profit (after settling their capital gains tax obligations, naturally).

Alternatively, you can select a repayment mortgage if you prefer. There are no restrictions preventing you from doing so.

It’s crucial to seek professional advice when determining whether buy-to-let is a suitable choice for you, given the numerous legal and tax considerations involved. An accountant can provide valuable guidance in making the right decision.

2. The amount you can borrow depends more on the rental income you receive from tenants rather than your personal earnings.

Before granting a loan, lenders assess the local market by examining properties similar to yours. If similar properties have lingered on the market or numerous vacancies exist, this could impact their evaluation of rental income. Lenders aim for rent to cover at least 125-145% of the mortgage payments. This is often expressed as the Interest Cover Ratio (ICR) of 125%-145%.

If you have a substantial income, some lenders may consider it, potentially lowering their ICR requirements, assuming your income can cover any rental shortfalls.

Conducting market research before approaching lenders is wise. Consult local letting agents and review property listings to gauge rental rates for similar properties.

Nevertheless, your income remains a factor. Typically, an annual income exceeding £25,000 is required, along with proof that you can meet payments even if interest rates rise or the property remains vacant for some months.

Portfolio landlords, those with 4 or more properties, face more comprehensive financial scrutiny, evaluating each property’s performance individually.

3. A larger deposit, typically 25% or more, is necessary compared to a standard mortgage.

That’s because lenders see buy-to-let loans as a bigger risk.

What’s the difference between a buy to let and residential mortgage?

A residential mortgage, also known as a buy-to-live mortgage, is a loan provided by a mortgage lender for the purpose of acquiring a home for personal residence. On the other hand, a buy-to-let mortgage is a loan obtained from a mortgage lender to acquire a property that will be leased or rented to other individuals for their residence. This is why landlords typically secure buy-to-let mortgages when acquiring properties for tenant occupation.

How buy to let mortgages work?

One notable distinction lies in the fact that the majority of buy to let mortgages operate on an interest-only basis. Consequently, your monthly payments solely cover the loan’s interest, leaving the principal amount untouched. While this results in lower monthly payments, you must be prepared to either settle the entire loan, sell the property, or refinance at the mortgage term’s conclusion. Essentially, you can purchase the property, generate rental income for the agreed term (e.g., 25 years), and subsequently repay the mortgage by selling the property.

Repayment mortgages, where both capital and interest are repaid in monthly instalments, are infrequent in the realm of buy to let properties. Implementing such a mortgage would necessitate charging higher rent to cover the increased monthly cost. Nonetheless, this arrangement grants flexibility at the mortgage’s end, allowing you to continue renting and retaining the full rental income or selling the property without mortgage obligations.

Another pivotal disparity between residential and buy to let mortgages pertains to the borrowing amount. In the buy to let context, your borrowing capacity is determined by the projected rental income, not your personal income. Therefore, if the property boasts size or an ideal location, you can command higher rent, consequently securing a more substantial mortgage.

The third distinction lies in the deposit requirement. Buy to let mortgages are perceived as riskier by lenders, leading to a common stipulation of a larger deposit, typically around 25% or more. Similar to standard mortgages, a larger deposit enhances the attractiveness of mortgage offers, so it’s advisable to provide the most substantial deposit possible.

Who can get a buy to let mortgage?

If you intend to lease your property, securing a buy to let mortgage is essential. Many lenders perceive buy to let mortgages as higher risk, and eligibility criteria may vary from one lender to another, encompassing the following considerations:

While not always a prerequisite, some lenders may require that you already possess a property of your own, whether fully owned or with an existing mortgage.
A sound credit history is typically expected, with a manageable level of other financial commitments, such as credit card debt.
You might need to demonstrate separate income from employment or self-employment, typically around £25,000 or more annually. Earning less than this could pose challenges with certain lenders when seeking approval for your buy to let mortgage.
Lenders often stipulate a maximum age requirement, typically around 75 years, though some may set lower age limits.
A loan-to-value ratio (LTV) limit of at least 75% is common, meaning you’ll need a minimum deposit of 25% for your bu to let mortgage.
The amount you can borrow hinges on your rental income, either current or anticipated. Lenders usually require your rental income to cover at least 125% of your mortgage repayments.