Houses in Multiple Occupation
The Investment Potential of HMOs
Houses in Multiple Occupation (HMOs) have the highest returns of all buy-to-lets. Put 5 or 6 bedsit or student rooms into a large Victorian house, or a converted commercial building such as a pub or bank building, and you have an annual yield that is far higher than a single let.
Notwithstanding that you will need planning permission, a larger initial investment for the conversion, and meeting the more stringent HMO safety standards, possibly a planning application and the fee process for an HMO license, HMOs can be a better business prospect. You also have a much more onerous management commitment, but given all of that your HMO can still make a handsome profit from year one.
HMOs Reaching Saturation Point?
However, with all the sales promotion of HMOs from some property gurus, will these developments reach a point of saturation in the future?
HMOs are not popular in respectable leafy residential areas for obvious reasons, especially with student occupiers – parties, noise, rubbish etc, - and new conversions often result in planning objections. Most councils will also place restrictions on HMO numbers in any locality.
Why Have HMOs become so Popular?
It’s little wonder though that HMO's have become so popular with property investors. Whereas a single let might return £650pcm, given a typical market rent in a provincial town - a £7800 annual return - its income is limited to the market rent. Take away mortgage, agent, repairs and other running costs and you will be lucky to net £3,000 before tax pa.
If you have a void period within the year, then your return is even less and therefore it’s not all that surprising that many single lets are lucky to break-even in income terms, certainly in the early years, if you are reasonably highly geared with finance. And of course the recently announced tax changes to be phased in over the next few years won’t help.
On the other hand, take an average HMO with 4 or 6 separate rooms, all brining in on average around £450pcm, which would give you between £1800 and £2700pcm or between £21,000 and £32,000 pa, assuming all rooms are fully occupied for the whole year.
It doesn’t take a genius to realise that even after taking into account the annual running costs, which in any case should not top £10,000, and with the odd room void along the way, the return is astronomically higher than a single buy-to-let. What’s more, with four or six tenants you are widely diversified compared to having a single tenant, but if squabbles develop in your house it can become a major management headache.
Supply and Demand
There’s just one big problem that can spoil the party here: supply and demand. Even when you can get beyond the planning, licensing, mortgage, safety and management hurdles, can you fill the rooms and keep them filled? What’s more, do you have the time to manage if you have a day job, because getting agents to manage HMOs for you isn’t always easy?
As with all property investment, research is the key, but finding the right location where tenant demand is strong and likely to remain so, for an HMO can be very lucrative. Competition though is something you need to look out for. There’s likely to be a spate of large scale rental developments just now, particularly in university towns, aiming at the student market. Although institutional and large-scale landlord investment represents not much more than 2% of the UK lettings market at present, that proportion is likely to increase considerably over coming years. But the attractiveness of these sorts of yields, as has been said, is not only attracting more small-scale landlords into this market, it’s got the attention of the large scale ones as well.
Filling and keeping that room full is the key to success in this business. Location of course is very important, plus having your units meet the requirements of the market you are aiming at, top, middle or bottom end, again depending on the location.
If you are have problems filling your rooms then perhaps it’s time to review your marketing: your advertising strategy, tenancy length and flexibility, rent amount vis-à-vis the competition, services and facilities offered. Developing relationships with local employers, universities, and local agents who may have tenants on their books, is always a good long-term strategy. Think about using specialist websites, especially the student ones like accommodationforstudents, and even Airbnb.
Yes, there are going to be difficulties to overcome but there are opportunities in this lucrative HMO market for those who are willing to do their homework and put in the necessary effort to make it work. The market for HMOs has grown, tenant demand for this type of accommodation is healthy in many locations, and providing it is good quality and value, this trend looks set to continue.
HMOs are popular not only with students and social tenants, who form the core of these types of occupiers, but also there’s a growing market for professional tenants, especially in the big cities where rents can be prohibitive in single lets for many people. HMOs have other attractions for these professional tenants: socialising, close proximity to transport links, pubs, restaurants and food outlets.
HMO Rules & Regulations
Landlords looking to enter this market need to be aware of the rules and regulations surrounding planning and licensing issues. Many local authorities include these rules on their websites, and I would say the starting point for any proposed HMO development or conversation must be having a word with the local authority concerned.
Any property is classed as an HMO if it is occupied by three or more people forming two or more households, where more than one of these households shares amenities - toilet, bathroom and kitchen. Although these may come under a selective licensing scheme, they are not necessarily licensable HMOs. The latter are currently defined as properties with five of more unrelated tenants, on 3 or more stories, meaning that the property falls under much stricter management regulations (The Management of Houses in Multiple Occupation (England) Regulations 2006)
HMOs have their own designated planning category under the Town & Country Planning Act 1990 (TCPA), which is C4. The Act states that any change of use of a property requires planning permission, unless it has “permitted use” - permitted by General Permitted Development Orders (GPDO), which includes these two categories:
- C3 Dwellinghouse - a house or flat occupied by a single person, couple or family.
- C4 House in Multiple Occupation (HMO) - a house shared by between 3 and 6 unrelated individuals as their main residence. They must share facilities such as kitchen and bathroom, toilet.
So, with HMOs it is usually permitted to change the uses between C3 to C4 unless the local authority imposes a restriction known as an Article 4 Direction, which has the effect of removing these permitted development rights.
A point sometimes missed by landlords is that for planning purposes shared properties are now split into two categories: those with up to six occupants and those with seven or more, known as sui generis HMOs (of their own kind). Sui Generis HMOs always require planning permission.
If you intend to let to more than five unrelated tenants over three stories you will need to obtain a mandatory license for your HMO, unless you are creating completely self-contained flats, where tenants do not share facilities such as kitchen, bathroom or toilet. To obtain the license the manager of the property must show they are a “fit and proper person” to act as a landlord, and the property must meet the necessary safety standards.
Traditionally, lenders view HMOs as commercial properties and impose the fairly strict criteria they would with any other commercial loan, with higher lending rates than those you can get with simple buy-to-let mortgages. However, lenders are now beginning to respond to the demand for HMO mortgages emerging HMO market. Nevertheless, they will be looking for a successful track record of property investing by the borrower.
The Future for HMOs
The HMO market is without doubt one which has potentially high returns, but don’t underestimate the work involved in achieving this, and the potential competition you may be up against. Will HMOs reach saturation point in the future? The answer is probably yes in some locations, but that could be some way off in others.
Some Useful Documents
See our User Guide here
Our Advice on Tenant Screening, a 20 point Checklist here