A Fresh Approach to HMOs

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When you think about houses of multiple occupation (or HMOs) you might think about student digs, something from the ‘Young Ones’ perhaps, where squalor is right of passage. It’s to be expected that almost everyone has a story about the shocking state of their student housing back in the day.

In reality, houses of multiple occupation are typically found, in addition to student areas, in locations with modest incomes but with high population density, and therefore high house prices. However, houses of multiple occupation are not only found in the South East, but are common across the UK.

From an investment point of view, the returns on a HMO are excellent, especially in a time where landlords’ profits are being squeezed. In light of this, perhaps it’s time to reassess this part of the housing market, to explore how we might make better use of the opportunities here, and how we introduce some new ideas to an area of the industry with a significant image problem.

What is an HMO?

When it comes to defining a HMO, there are two authorities that matter here: lenders and local authorities. Local authorities are much easier since new legislation came into force, recently standardising the definition across the country. According to the gov.uk website:

Your home is a house in multiple occupation (HMO) if both of the following apply:

  •     at least 3 tenants live there, forming more than 1 household
  •     you share toilet, bathroom or kitchen facilities with other tenant

Your home is a large HMO if all of the following apply:

  •     it’s at least 3 storeys high
  • at least 5 tenants live there, forming more than 1 household

    you share toilet, bathroom or kitchen facilities with other tenants

Technically then, a flat with three unrelated occupants is classed as a HMO, and needs to observe certain requirements. These requirements are pretty much the basic level of service that any landlord should uphold, and really carry little overhead compared to any standard By-to-Let property. This is aside from the fact you have three individuals to manage rather than one assured shorthold tenancy (or AST), which is usually the case for single occupancy agreements.

A large house of multiple occupation is what we may typically think of as being a house of multiple occupancy: five or more tenants. This type of HMO does require a license, which involves a great deal more work. For instance, the property needs to meet fire regulations, and much more stringent building regulations.

From a lenders perspective, the definition is more straightforward. If it looks like a HMO, or smells like a HMO, then it is one. Any indication of such a set up will usually result in the surveyor deeming it as such, and the lender will take it from there. Of course, most lenders have different products for these properties to account for the risk of having occupants that are managed individually, and the fact there is more likely to be increased voids.

Making 3–5 room HMOs work for you

Many people co-habit in households of 3–5 rooms, especially in London, so it may make sense to see HMOs in areas like this. But why do we not see any houses of multiple occupation in that market?

For investors, the big appeal of houses of multiple occupation usually is that the total rent you can achieve per room is 50% higher than that of an assured shorthold tenancy for the whole flat. However, many landlords have not capitalised on this.

There is a huge economy out there catering to house-shares, but how do people arrange such shares outside of HMOs? Does one person own the property and then offer spare rooms out? If people are renting, who makes the first enquiry? How do you bring together the other three people before you all rent on one tenancy agreement?

“Big appeal for lenders of HMOs usually is that the total rent is 50% higher than that of an AST for the whole flat”.

It’s also interesting that larger flats are increasingly  being promoted as being “ideal for sharers”. For instance, a four-bed maisonette near Crystal Palace, on the market for £2,000 a month and finished to a high standard, can be marketed room by room, bills included and with a premium added on. Do we think the demand for a London room would cover a monthly rent of £650 or £700 a month?

If not, what else could make this attractive? Typically, furnished apartments can be troublesome, with the furniture often being low quality, but it doesn’t have to be the case. What about the mess that invariably plagues shared homes? How about a cleaner twice a week? Fast broadband? High-quality appliances and fittings? All things to consider.

What about lenders?

If you are buying a premium property today, you would be wise to sit down with an accountant and discuss if buying in a limited company might be the best way to proceed.

I can’t tell you what the answer is there but, should you be looking to buy with a limited company, the interest rates you would pay for a HMO would be exactly the same as those offered to limited companies in most cases. Even if not, the yields offered by such a deal far exceed those of the standard family home market, and more than cover the increased interest.

There are, however, some things to consider with the uptake of a HMO. One of the major issues may be that there is a large amount of work involved and, if you did want to sell down the line, only other investors would be interested.

But probably the most obvious indicator that a property is a HMO is that there are locks on the internal doors, a simple thing to replace. It is unlikely that anything else would need changing. The target market here to rent might be the same to buy, i.e. young professionals with disposable income, but lacking the means or desire to buy just yet.

The other problem is that of being able to obtain property in London, given the new PRA guidelines covering portfolio landlords, and the limitations the new tax rules have introduced. Most investors are finding that maximum loan-to-values (LTVs) in the capital are about 60%, limited by the rent.

“A three-bed flat can be a HMO and, in return for a higher room by room tare, the tenant gets a professionally-managed service.”

But, on a HMO, that increased yield makes a huge difference. When reviewing a number of lenders in this market, we found that combining both HMO incomes and limited company criteria meant 75% loans were achievable comfortably across most property examples.

Thinking differently about HMOs

To gain access to this area of the market, houses of multiple occupancy don’t need to be huge properties. A three-bed flat can be a HMO and, in return for a higher room by room tare, the tenant gets a professionally-managed service.

By adding value to the arrangement, much higher prices can be achieved. This is simple business principle, that rarely seems to apply to housing (but hotels seem to have this figured out…).

If you are considering the specialist end of the mortgage market, and using a limited company structure, the finance options are the same – and you can borrow much more than you could on a personal single occupancy property.


Author: Stuart Phillips

Author: Stuart Phillips

Fully CeMap qualified, Directly Authorised by the FCA and with over a decade of experience, Stuart has a wealth of experience in both specialist BTL and residential mortgages.

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