There is a big difference between manageable debt and debt which is out of control. Over the last decade UK interest rates have been at the bottom end of historic lows. There would appear to be minimal chance of a significant rise in the short to medium term. As a consequence, more and more property investors are looking towards low interest funding to expand their property portfolios. However, it is imperative that debt is managed and existing properties used to secure funding.
Whichever way you look at mortgage funding, everything comes down to the risk/reward ratio. In some cases the risk may be too high, even with additional property assets as security, while on other occasions a lender could justify a higher interest rate to offset this risk. So, how can you use your property assets to secure funding at affordable levels?
Traditional banks are effectively straitjacketed to use the new mortgage funding calculation for affordability. If your income does not justify the mortgage you are looking for then it is quite simple, it will be refused. However, if we take a look at private banks they offer a whole different scenario.
While traditional banks are heavily regulated and dependent upon the mortgage affordability calculation, which only considers regular income, private banks are very different. They are funded in a very different manner, via investors, shareholders and high net worth individuals, and as a consequence can take into account a whole array of different income streams and assets.
Utilising property assets
If you are looking for additional funding to acquire new assets there are three main ways of doing this:-
• Simple mortgage with target property used as collateral
• Remortgage existing properties with large equity content
• Apply for new mortgage funding using existing properties as collateral
Let us take the example of a £200,000 investment property, which requires a mortgage of £150,000, with the applicant having significant wealth (fully paid-up property worth £200,000) but little in the way of regular income. In a traditional high street banking scenario any mortgage application would be refused. However, a private bank would look at this very differently.
If we assume a relatively low 5% rental yield, on a property worth £200,000, that equates to £10,000 per year. At this moment in time it is possible to secure a fixed mortgage interest rate of just over 2% for between two and five years which means that the rental yield will more than cover the interest charge. It is obviously in the investor’s best interest, for short-term cash flow, to secure an interest only mortgage with capital repaid at the end of the term. However, without the introduction of additional assets as security this may be difficult to organise.
So, let us assume that the investor is willing to put up their paid up property as collateral against £150,000 in mortgage funding. This leaves “headroom” of around £50,000 which means any debt would still be covered even if the property price fell by 25% (unlikely). As a consequence, a private bank might be more willing to agree an interest only mortgage in the knowledge that there is additional security against the £150,000 loan.
If over a 20 year period the value of the property was to double, not beyond the realms of possibility, then the rental income would cover mortgage interest charges, and there would be equity of £150,000 (£300,000 value less £150,000 mortgage) at the conclusion of the mortgage term. It should then be possible to part remortgage the property, raise £150,000 and pay off the mortgage capital. This would leave an equity stake of £150,000 in the property although there would obviously be a mortgage to repay in the longer term – likely to be covered by rental income.
This is just a very simple example of how private banks will consider the use of property assets as a means of added security. This allows them to consider interest only mortgages, against the more conservative capital repayment mortgages, and be more flexible with regards to the affordability calculation. The majority of traditional high street banks will not even consider potential rental income on a buy to let property investment as a means of at least part funding mortgage repayments.