Investing in property for better returns
When you’re investing in property for the first time, the benefits of investing in property below market value aren’t always obvious. Of course, buying as cheaply as possible is a no-brainer. Understanding why this is so will add spice to your investment strategy.
In this investment blog, you’ll learn four of the major benefits of buying property below market value. I’ll also show you what effect that will have on your investment over the long term.
Buying property below market value affects your buy-to-let mortgage
When you apply for a buy-to-let mortgage, the lender will want a deposit based upon the purchase price, not the value of the property. You will only be able to borrow a certain percentage of this price – this is called the ‘loan to value ratio’ (LVR). Typically this is 75% (though some lenders will lend more). If you borrow a lower LVR, the lender sees you investing in property as lower risk. This makes it easier to borrow.
Let’s say you have £50,000 to put down, and the property purchase price is £200,000. The mortgage of £150,000 is 75% LVR. But if you negotiate a discount on your property investment of, say, 10%, or £180,000 you only need to borrow £130,000 to fund the investment. That’s an LVR of 72%. You become a more attractive proposition to the lender, due to the larger comparative deposit. But remember, even if the property is valued at £200,000 the lender will work on the lesser of the value and purchase price, not the higher.
Protection against a market fall
When buying property below market value, you immediately protect yourself against a drop in the general market. Taking the example above, let’s say you invested at a price of £180,000 when the valuation put on the property was £200,000. The market stalls and the price falls. If you need to sell for any reason, the market value would have to drop by 10% for you to start losing money.
If you had paid the market value at the time of your investment, any fall in value would translate into a loss.
Cash flow is improved by investing below market value
Imagine you're investing in a property valued at £200,000, as above. The rental income is £1,000 per month. Your buy-to-let mortgage of £150,000 is a capital repayment and costs £792 per month (at 4% interest rate). Property management fees are £100 per month. You are left with just £108 per month net rental, or £1,296 per year. You only need to incur a few maintenance costs, and this profit will soon disappear.
By buying property below market value, you slash your mortgage payments. In our example, if you only needed a £130,000 buy-to-let mortgage, your mortgage costs would fall to £686 per month (at 4% interest rate). Your rental income would remain the same, and so would your property management fees. But your net income increases to £214 per month, or £2,568 per year – your profit has almost doubled. Your increased investment cash flow leaves plenty of room for unexpected maintenance charges to be handled with ease.
I don’t recommend flipping property (buying to sell quickly). I’ve seen too many investors lose their shirt doing so because they relied on it selling. But there is no doubt that buying property below market value gives you an immediate paper profit. And were you to sell at market value quickly, you’d make a good return on investment.
In our example, if you paid £200,000 for a property valued at £200,000, you’d make nothing by selling quickly. But if you only paid £180,000 and then sold at the market value of £200,000, you would make a very handsome return on investment (ROI). Your original investment was £50,000 (your deposit), and you made £20,000. That’s an ROI of 40%. (excluding costs, and these can add up remember.)
While this is good, think about what your ROI could be after a year if values increased by 10%. The property would be worth £220,000. That’s a profit of £40,000 – or 80% on your investment. Plus you’ve had the benefit of rental income for a year.
Buying off-plan property at a below market value
Some property investors only buy off-plan property. This is generally sold at a discount to its current market value. This builds in a natural buffer and profit when you’re investing in property. You have to wait for the property to be completed, but if values have increased in the meantime then your profit increases, too. And if they don’t, you probably have a quality product with maximum appeal to the rental market.
Chat with the team on +44 207 923 6100 today to find out more about the benefits of buying property at below market value.
PS. Beware of developers that raise the price only to offer you a discount. Below market value is exactly that – below-market VALUE… not below LIST PRICE… Do your due diligence and research and don't fall for this little trick.