Bank Of England Guidelines Are About To Hit The Buy To Let Mortgage Market Hard
What Has Happened And What Are The Changes?
The Bank Of England has recently been given new powers by the treasury which are designed to curb risky buy to let lending, with the Chancellor Of The Exchequer, Phillip Hammond, recently saying that.
”Expanding the number of tools at the financial policy committee’s disposal will ensure that the buy-to-let sector can continue to make an important contribution to our economy, while allowing the regulator to address any potential risks to financial stability,”
The result has been a review by the Prudential Regulation Authority (P.R.A.) into the buy to let mortgage market which is about to dramatically change the way that mortgage providers lend on buy to let mortgages and make it much more difficult for property investors to obtain a mortgage, particularly for investors in the south east of England.
On the 29th September 2016 The Bank of England released a press release providing a detailed guideline as to the expected underwriting standards which they believe should apply to the buy to let mortgage market.
In the press release, the Bank of England stated that
”Affordability assessments should take into account: borrower’s costs including tax liabilities, verified personal income (where used by the lender) and possible future interest rate increases. When setting the expectations for future interest rate increases, the PRA reviewed the prevailing standards in the industry and considered the impact of changes in interest rates, and calibrated the stressed rate accordingly.”
The above statement no doubt refers to the recent tax changes announced in the summer 2015 budget in which the Government announced a series of measures which will have far reaching consequences for buy to let property investors, especially high rate taxpayers, and will result in significant increases to their tax liabilities, including:
A restriction in tax relief on rental income to basic rate tax relief only
Whereas mortgage interest payments could previously be offset against rental income and reduce all of the potential tax liability, this will now be restricted to basic relief only, meaning that returns for higher rate taxpayers could effectively be wiped out, especially if mortgage interest payments are 75% or more of their rental income.
Tighter Restrictions On Wear And Tear Allowance
Previously, landlords were able to automatically deduct 10% of rental profit as ‘wear and tear’ even if they had not actually spent anything on renovating or improving their rental property. However, after the Government’s new rules on wear and tear allowance, deductions can only be made if costs have been incurred, with receipts required as proof of improvements having being made.
Additional Stamp Duty Charges For Second Homes
In March the Government announced a consultation document confirming the introduction from the 1st of April of an additional 3% stamp duty charge on most investment property purchases. Designed to help fund a program of affordable housing schemes to increase home ownership, the cost of buying an investment property was, at a stroke, increased by several thousand of pounds, with those buying in the south-east hit hardest.
How Will This Affect Buy To Let Mortgage Lending?
Without a doubt, the biggest effect that the PRA review will have on the buy to let mortgage market will be to increase the rental income stress test that borrowers will need to pass in order to qualify for a mortgage.
In order to obtain a buy to let mortgage, lenders require that the property will provide a sufficient level of rental income which will cover the mortgage payments. Typically the rental income has to meet the mortgage requested based on an assumed interest rate at anywhere from 5% -6% , allowing the lenders to make provision for any future interest rate rises.
However, lenders also insist that the rental income covers the mortgage requested at an additional amount over and above this interest rate in order to make provision for additional costs such as rental voids. It is this stress test which is going to be massively impacted by the recent review by the Bank of England.
In the past, the stress test was typically set at 125% of the assumed interest rate so £100,000 of borrowing would require,assuming a 5% interest rate calculation, need an annual rental income of £6,250.
Now, with the PTRA review, these stress tests are set to be significantly tightened. Some lenders have already increased their rental stress tests for new borrowers with The Mortgage Works increasing their rental income stress test from 125 per cent to 145 per cent on the 11th May and most recently BM Solutions decided to tailor its rental income requirements for higher rate taxpayers.
Act Now If You Want To Raise Money On Your Existing Buy To Let Property
When the PRA review is fully implemented then the biggest losers will be the buy to let investors in the south-east of England. In this area, yields are typically much lower than in other parts of the country so they are much less likely to pass the new, higher rental income stress tests.
At the moment it is still possible to obtain a buy to let mortgage based on the pay rate of the buy to let mortgage with lenders such as Clydesdale and Precise but these rates will simply not be available by the end of 2016 so any buy to let property investor who wishes to raise up to 75% or 80% of their current property value needs to act now otherwise it is unlikely that they will pass the new rental income stress tests that will come out in 2017, especially if their property is in the southeast of England.
Some lenders have told us that they will be increasing their rental income stress tests significantly by mid-December so it is essential that buy to let investors speak to their mortgage broker immediately if they wish to maximise their buy to let mortgage borrowing before the changes take place