How would your finances cope with an increase in UK base rates?

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Only last week the Bank of England suggested that UK base rates will not rise until at least August 2018 which was a relief to the UK property market. This delayed increase in UK base rates will ensure that loan rates remain relatively low for the foreseeable future. However, it is worth noting that as we finally approach an increase in UK base rates the rate in the UK marketplace will not suddenly change overnight.

Subtle information will be conveyed to the financial markets which will see real interest rates begin to increase well before we reach the stage where UK base rates move higher. Even though this may be some time off, have you stress tested your finances to see how your property portfolio would perform?

Debt is good, used correctly

There is nothing wrong with using debt to increase your financial firepower as long as there is sufficient headroom between income and finance costs. The reality is that without debt, in this case mortgage debt, the worldwide property market would be very different to the one we see today. It is the ability to use debt to acquire properties where the income is very often more than sufficient to cover finance costs going forward which is paramount. This is not always the case, where there are new builds for example, but on the whole the vast majority of property investors use debt as a way to invest in assets which will generate greater returns than the cost of the finance.

It is when investors overstretch themselves, have limited collateral and very little in the way of headroom between income, their own finances and loan costs that things start to go wrong.

Is it too soon to stress test your property portfolio?

There is nothing wrong in testing how your income/outgoing ratio changes as interest rates rise. You can test this with constant rental yields, lower rental yields and higher rental income. This will give you an idea of the “headroom” you would have when UK base rates finally move upwards away from their historic lows. It may well be that you decide to reduce those with a lower rental yield, take a capital gain on some of your better investments or indeed you may already be in a position to carry the additional costs as interest rates rise.

The fact is there is nothing wrong in testing different scenarios, looking to the future and reorganising your portfolio where applicable. It is those who sit back, enjoy the good times and are relatively inactive with regards to their investment portfolios who will suffer. As we said above, as and when UK interest rates actually rise we will see movement in the money markets prior to confirmation by the Bank of England.

Conclusion

It makes common sense to stress test your finances and your property portfolio assets against different interest rates, financial costs and rental yields. This may well see you eventually changing the mix of your property assets, taking profits where applicable and reducing those offering low rental yields. As they say, to be for warned is to be for armed.

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