How much deposit do you need for a buy-to-let mortgage?
January 15, 2019
If you’re about to jump into the world of buy-to-let property (and there are plenty of reasons), it’s more than likely that you’ll need a buy-to-let mortgage. These mortgages are not the same as the ones you’d use to buy your home, so it’s crucial that you understand how they work and their fundamental differences.
Deciding on the correct deposit for a buy-to-let property is made significantly easier when you know the facts concerning buy-to-let mortgages. From deposit size to interest rates to the new risks involved, your buy-to-let mortgage deposit will depend on a variety of factors.
So without further ado, let’s start with the basics…
What exactly is a buy-to-let mortgage?
A buy-to-let mortgage is a mortgage taken out to purchase a property that you intend to lease to a tenant. The rules that apply to these mortgages are similar to those applied to conventional mortgages, but there are some important differences that you should be aware of…
How do buy-to-let mortgages differ from regular mortgages?
- Interest rates are generally higher (currently around 5.5% at the time of writing).
- Mortgage fees tend to be higher – arrangement fees on buy-to-let mortgages can reach up to 3.5% of the total mortgage amount.
- Many buy-to-let mortgages are interest-only – this allows a landlord to maximise the rental income by having lower repayment costs. Interest-only mortgages are not your only option though, so make sure to consult a mortgage expert to find the best mortgage type for you.
- The minimum deposit for a buy-to-let mortgage is typically 25% of the property’s value but they can be as much as 40% in some cases. In comparison, deposits for homebuyer mortgages can start from as little as 5% of the property’s value.
The majority of these differences are the result of the higher risk associated with buy-to-let properties. Landlords generally expect their rental income to cover the cost of monthly mortgage payments but things aren’t always that simple. Rent doesn’t always get paid on time and properties aren’t always tenanted, which all increases risk from a lender’s perspective. These typically manifest in higher costs for buy-to-let borrowers.
How much deposit do you need?
As stated above, the minimum deposit for a buy-to-let mortgage in the UK will generally be 25% of the property’s value. On average, you can expect to need a deposit of 20-40% of the property’s value to be seriously considered for a buy-to-let mortgage at reasonable rates. As with the majority of mortgages, the greater the deposit you put forward, the lower the monthly repayments will likely be.
Buy-to-Let Stress Test
The amount you can borrow (and therefore your deposit size) is dependent on the amount of rental income you expect to receive from your rental property (Rental Margin) and your ability to repay the interest on the mortgage (known as the Interest Cover Ratio or ICR). Both of these factors are used by all lenders in their Buy-to-Let Stress Tests:
- The rate – the notional interest rate is typically set at a minimum of 5.5%
- The rental margin – a minimum ICR rate of 125% to ensure the borrower has enough surplus cash flow from the property to cover additional costs.
Stress Test Calculation Formula
- “Buy-to-let mortgage price” x 5.5% ÷ 12 = Your monthly interest payment
- Your monthly interest payment x 125% = The rental income needed for you to qualify for the buy-to-let mortgage
So for example, if you are buying a property worth £300,000 using a 25% deposit, you’d be borrowing £225,000:
- (£225,000 x 5.5%) ÷ 12 months = £1,031.25
- £1,031.25 x 125% = £1,289.06 per month
While the average stress test utilised by buy-to-let mortgage lenders has used 125% ICR at a 5.5% nominal interest rate, things are currently changing. Expect to see the market norm increase to around 145% at 5.5%. As ever, consulting a mortgage expert is the best way to ensure you are making the most accurate calculations for your buy-to-let property.
If you see a property you like on our current listings use the 'Request Financial Analysis' feature to help calculate your unique buy-to-let mortgage requirements.
Top tips for getting a buy-to-let mortgage deposit together
- Release equity from your home – this is one of the quickest ways to stump up the cash for a buy-to-let deposit. If you’re currently paying off a mortgage on your home, ask your lender for a further advance on your current mortgage or you can remortgage your home entirely to release the necessary funds. In both instances, your home will have to be revalued, which you will unfortunately have to fork out for.
- Find an investment partner – why not split both the cost and the risk of investing in a buy-to-let property by making it a joint venture with a trusted partner? The chances are you will be able to produce a larger deposit, which will typically save you money in the long run.
- Shop around to find a trusted mortgage broker – it may sound obvious but don’t be charmed by the first mortgage broker you speak to, especially if it’s a bank or building society. Remember to be patient – it may take time but consulting a variety of independent brokers will save you money in the long run. They will be able to talk you through the best deals for your circumstances but always remember to do your own research first (comparison sites are a godsend in this regard). The more you know about what buy-to-let mortgages are out there, the better chance you’ll have of spotting the ideal one for you.
So there you have it, whilst buy-to-let mortgages share a lot of similarities with homebuyer mortgages they have certain differences that affect their costs and deposit sizes. The exact deposit you will need for your buy-to-let mortgage will depend on your property, your financial situation and the wider property market. As ever, do your research and talk to the pros and you won’t go far wrong.
Speaking of property pros, at Vesta we are experts on the UK buy-to-let market. For more information on buying a tenanted property or any questions about property investment, get in touch with our knowledgeable team today.
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