Choosing Between Holiday Lets and Buy to Lets

Nikka Sulton

Choosing Between Holiday Lets and Buy to Lets

Are you considering a holiday let or a long-term let? Each has its perks and drawbacks. A holiday let is short-term, perfect for earning income and personal use. In contrast, long-term lets typically don’t allow personal stays. Read more in this guide.

What is the difference between a holiday let and a long-term let?

A short-term holiday let is rented to holidaymakers for brief stays, typically 3 nights to 31 days. To be a furnished holiday let (FHL) for tax purposes, it must be available for rent 210 days/year and let commercially for 105 days, excluding personal or discounted stays. A long-term let, or buy-to-let, is usually rented for 6 to 12 months.

Why consider a holiday let?

Owning a holiday home in the UK offers the advantage of generating income and personal use. In contrast, buy-to-let properties typically don’t allow personal stays unless vacant. Holiday lets may have erratic income, especially off-season, and require more maintenance due to frequent guest turnover. However, holiday homes in popular destinations can be more profitable, with some fetching high weekly rents.

How holiday let mortgages work

When buying a holiday let, avoid using a buy-to-let or residential mortgage to finance it, as lenders can demand full repayment and it may affect future mortgage options. Opt for a holiday home mortgage, often best found through a specialized broker.

You’ll typically need a 25% to 35% deposit, with larger deposits leading to better mortgage rates. Lenders also assess affordability, requiring a separate income source to cover mortgage costs during unoccupied periods. An annual income of £20,000 to £25,000+ from employment or retirement income is typically expected.

Lenders now require a robust income projection for the holiday let, with a stress test of expected rental income at 185% of monthly mortgage payments, up from 145%. Location can also impact approval, especially in flood-prone areas like the Lake District, where lenders might refuse applications.

Which lenders offer holiday let mortgages?

The number of holiday let mortgage products has tripled since 2020, now totaling 231, marking a 25% increase since September 2021 and a significant rise from just 74 in August 2020, according to Moneyfacts.co.uk. The market has seen more lenders, primarily building societies, entering the segment, with 27 brands currently offering holiday let loans, up from 25 in September 2021 and 21 in April 2021. Increased demand for UK vacations amid the pandemic has driven borrowers’ interest in holiday let properties, prompting lenders to respond to this growing demand.

Things to consider before choosing holiday lets VS buy-to-lets:

1. Financial return:

Property returns depend on location and property type. Urban buy-to-lets offer consistent returns, while holiday lets vary due to occupancy rules. In rural or tourist areas, holiday lets often yield higher returns.
Capital gains are unpredictable, but holiday lets, especially unique or period properties, stand out from urban flats.
Consider profit consistency. Buy-to-lets have stable monthly income, while holiday lets are more seasonal, thriving in warmer months.
Profit reliability varies. Holiday lets rely on numerous bookings, offering consistent income with maintenance and marketing. Buy-to-lets depend on single tenancy contracts, which can lead to void periods and profit fluctuations.

2. Taxation:

Tax changes impact buy-to-let profits. Limited mortgage interest deductions can turn the business case negative.
Furnished holiday lets, considered a business by HMRC, allow unlimited mortgage interest deductions, reducing income tax bills significantly, especially for higher-rate taxpayers.
Selling a holiday let may qualify for capital gains tax reliefs like Entrepreneurs Relief, reducing tax to 10%. Compare this to the 28% for higher rate taxpayers on buy-to-let properties.
HMRC contests, but holiday let properties are seen as Business Property for inheritance tax purposes, potentially up to 100% exempt upon transfer.

3. Level of hassle:

Holiday rentals demand higher upkeep, involving regular housekeeping, addressing guest concerns, and property maintenance. Buy-to-let properties require less frequent maintenance but pose potential hassles, especially if property damage is discovered after a tenancy ends. Tenant issues can also arise, leading to prolonged occupancy.

Buy-to-let tenants hold legally-recognized status with rights and protections, ensuring undisturbed living conditions and guarding against unfair eviction to protect vulnerable individuals. In contrast, holiday let guests have a ‘license to occupy,’ with limited rights defined by booking conditions.

4. Availability of mortgage finance:

Holiday let mortgages often fall under specialist finance and may not be well-understood by mortgage brokers in the broader market.
Buy-to-let mortgages are readily available, with the remortgage market being more active in recent times.
Both financing options are typically assessed using the rental income cover ratio, typically set at 140% to 145%, utilizing a stressed interest rate of 5.5%. This means lenders base loan decisions on the expected monthly rental income.

Which option is best?

Owning a holiday let or residential buy-to-let has distinct advantages, but the choice depends on the investor’s goals, expected returns, and risk tolerance. Holiday lets offer higher financial potential with effective management and marketing, albeit requiring more effort. Tax benefits vary and should be discussed with a tax advisor or accountant due to individual tax situations.