No, it’s not rent x 10 to value an HMO and lenders don’t decide the value of a property. These are the two most common questions I get asked. There is so much incorrect information on this subject and this post will tell you how it is.
Firstly 75% of lenders will only lend against bricks and mortar on a small HMO (up to 6 beds) and the other 25% can have restrictions on how much they will lend on a newly converted HMO. Yes, some properties are valued at 10 x rent but I’ve seen as low as 5 and as high as 14. Lending against rent is often called a commercial valuation.
If I can buy 24 Sherwood Close for £150,000 which is a 4 bed detached, spend £15k on conversion costs to make a 6 bed HMO what is it worth? Each room will go for £95 per week so annual rent is £29,640. Some will say now worth 10 x rent which is £296,000. Now it then goes on the market for sale, but I can buy no 22 for the same price and get my own HMO for £131,000 less. So who would ever buy no 24 at a figure way above bricks and mortar?
If it’s a new HMO and you qualify for the lenders that allow commercial valuations, there can be restrictions which last up to 2 years after conversion. These are all aimed at keeping the LTV down and you leaving money in the deal. We have seen no more than 70% of costs and a maximum of 60% of the value. As it’s a new HMO not tested in the market they don’t know how successful it will be, so they reduce the loan to lower the risk. Not all lenders are like this as we regularly get 75% LTV for our clients.
Lenders will instruct their valuer to value on a vacant possession (VP) value which is bricks and mortar and Market Value which is based on a yield resulting in the value being linked to a multiplier of rent.
The valuer will analyse the gross rent and make deductions for repairs and management. They then capitalise the net rent to obtain a capital value figure and compare with other residential properties and comparables in the locality.
There are four ways that valuers look at HMOs if the lender accepts this type of valuation.
1. The property can be used on a multi-let basis (another word which lenders use for a small HMO) and any works to convert are minimal. When empty the property can be used as a single let.
The property can be used on a multi-let basis but the works to convert are minimal. A buyer is likely to purchase a similar property and convert than pay a premium. It will always be valued on a bricks and mortar basis. Some lenders will lend off the total rent by room and others will base the loan on the single let rent.
2. There is no Article 4 in the area and there is no planning in place. The building has had a significant change to be used as an HMO and it cannot be used as a single let.
No Article 4 in the area and no planning in place. Other units in the area are sold as private dwellings. The building has been significantly altered and can no longer be sold as a private dwelling. If there is a demand for an HMO and there are comparables then the lender may work off Market Value.
3. Article 4 is in place.
Up to 6 beds. Article 4 is in place so there is a barrier to new HMOs. The valuer will consider comparables and rents and will be valued on market value.
4. Planning in place (Sui Generis ) to be used as a large HMO.
Over 6 beds. Sui Generis (class of its own) planning in place. The valuer will consider comparables and again base on market value.