Are HMO’s The Only Properties You Should Be Buying In The Next 2 Years?
I got talking at length to Jim Haliburton the other day, one of my investing contacts who happens to own 104 HMO properties in the West Midlands (at the last count at least, he often loses track of how many he owns). And it only took him 2 years to get to that many, once he’d given up his full-time job as University Lecturer.
So suffice to say, if I want to know anything about HMO’s (houses of multiple occupation for the uninitiated), I ask Jim. What was his opinion on the types of investments we should be looking at in the current climate? Does he still think HMO’s are the way forwards, despite regulatory tape squeezing the HMO landlord? After he illuminated me with his advice, I asked him to write an article that would summarise his view inside 20 minutes. He agreed and here is the article…
The Twenty Minute HMO Daddy Course
by Jim Haliburton
So you are considering becoming a HMO landlord? Here is a twenty minutes outline. If you want to know more then get my book ‘How to Become a Multimillionaire HMO Landlord’ it has over 300 pages packed with information and attend my one day course on How to Become a HMO Landlord. For detail of both see HMODADDY.com. Anyway lets get started.
(1) Understand that HMO investing, as well as property investing in general, isn’t difficult
Property investment is not difficult, I compare it to used car dealing except the figures are larger, the strategy is different and it is much easier. Property is less complicated than cars and the longer you keep property the more valuable it becomes unlike cars which usually depreciate. On average property doubles every ten years but it has its ups and downs so to be on the cautious side expect to invest for at least twenty years before property next doubles in price. In the meantime you have to live and cash flow is essential especially if property prices are going nowhere and interest rates continue to rise, as you need to cover your costs.
HMO DADDY believes that HMO’s outperform the property market and has come up with the following unproven statistics acquired from observation of the HMO market. Take a building, for example a large house and turn it into a HMO with a minimum of five units, the HMO being developed over the years to maximise its full potential as a HMO then the following HMO DADDY rules apply:
RULE OF THREE is that a HMO grosses about three times the income of the same property let as a single unit.
RULE OF TWENTY is that after twenty years the original purchase price of the property which is then converted into a HMO will equal or thereabouts the gross rent. For example a house purchased in 1987 for £30k will produce a rent of about £30k per annum today as a HMO.
RULE OF FORTY TEN is that after forty years a house purchased and turned into a HMO then the gross rent per annum will be about ten times the purchase price. For example a house purchased in 1967 for £4,000 will produce a rent today of about £40,000 per annum as a HMO.
Note that you need to spend a considerable amount of money over the years improving and keeping your property up to standard to achieve these returns.
(2) Your Motivation
Be clear about why you are investing in property and remember why when things get tough, as they will. Most people want financial independence. How much money will give you financial independence? It is generally accepted that a million pounds would not be too far off the mark. So how do you get a million quid? Borrow the money to buy a million pounds of property today and applying (1) above wait for about ten years for it to double. However, in the meantime you need to pay the mortgage interest and other costs. As HMO’s give a substantially greater income compared to single lets you should easily be able to pay the mortgage, costs and perhaps get a bit of profit as well, all of which is becoming extremely difficult with single lets.
(3) What is a HMO?
Instead of letting by the house or flat rent by the room, the more rooms the better. Tip: change the lounge and dinning room into bedrooms. There is no law that says you must have a lounge and dinning room, and, unless your tenant group demand it, I would use the lounge and dinning room as bedrooms to increase income. A bedroom needs natural light, an opening window and a minimum of 70 sq ft. Often extra units can be created by building partitions and it does not cost a lot to do. NB Planners may want to see a communal area.
(4) How do I know there is demand for HMO’s?
If there is a demand for houses and flats in the area then there will with almost certainty be demand for HMO’s.
(5) How much to charge
For a reasonable size HMO i.e. five or more letting rooms, the total rent for all the rooms usually comes to about three times what you could charge for the whole house or flat. The amount of rent to charge for each room depends on the size and standard of the room. New properties attract a premium. For example, if you have a nice double room with ensuite charge £90 and for a small room charge £50 or £60. In London you can charge more and in the areas of low demand maybe less. Rent level is often down to suck it and see and is not as rigid as single buy to lets especially if you are flexible on terms e.g. allow short stay and immediate occupation but I would always require proof of identity and a wage slip.
(6) What kind of tenants
Generally it is the same as the demand for single lets in your area. The market for HMO’s is:
(i) Company lets
(v) Contract e.g. asylum seekers and social housing
(vi) Unemployed also known as DSS, DHSS, DWP and H.B
Each type of tenant has its own problems and advantages except the young unemployed (DSS) which have very little going for them. I do not wish to appear unfeeling about DSS tenants but from bitter experience I find they cause serious problems.
(7) How to get tenants
In cities use the web it is free and used by students, professionals and companies. Elsewhere and for workers and unemployed I find the local newspaper works very well and cards in shop windows are the most cost effective.
(8) Do I have to register with the Local Authority?
No! Unless you have a three or more storey building, see later. In the HMO business you want to keep as far away from officialdom as possible as they do little for you and more often than not make things difficult for you and increase your costs. I know some of the officials can be helpful, friendly and mean well, but on balance I would keep well away.
There is no requirement to tell or register with your Local Authority except where you have a Mandatory Licensable property which is a three or more storey building let to five or more tenants sharing a kitchen or bathroom. All three requirements must apply so a two storey building irrespective of the number of tenants does not need a licence. The exception to this is where your local authority has introduced Additional or Selective Licensing which only two or three have so far but I expect more will.
So unless Additional or Selective Licensing applies you can have a two storey building with 10 tenants or more and no licence is needed nor do you have to inform your Local Authority. With 3 storey licensable properties you have to apply for a licence and pay a fee within three months of starting to let to five or more persons, note you are unable to licence the property while it is occupied by only four people. The local authority will then, when they get around to it, tell you what conditions and ‘improvements’ they want to impose, see 9 below, and they have to give you a reasonable time to do it. You can also appeal against the imposition of unreasonable conditions or time limits to the Residential Property Tribunal. Delay means not doing it!
Exceptionally, where the property is very dangerous the Local Authority can get the Fire Service to close the property until remedial works have been done or with unfit properties which the owner refuses to repair, take over the management of the property and use the rent to do the repairs and pay for managing the property. It is very unlikely that a Local Authority will take over the management of a property.
(9) What do I have to do to the house?
The important thing is to satisfy your tenants demands i.e. give them what they want. I find most tenants require a lock on their bedroom door, a fully furnished house, including a washing machine in the kitchen, 24/7 central heating and a TV. Professionals also require broadband. I would always provide smoke detectors as well though I accept they are of limited use and abused by the tenants but you are seen to do the right thing.
For fire protection you are better off fitting fire sprinklers as they do the job, are rarely abused and cost far less than the fire protection that the Local Authorities will often try and make you fit known as passive fire protection. There has never been a death through fire in a fully sprinklered property. For more on fire safety read my article ‘How Landlords Can Save Lives and Save Money’ on www.HMODaddy.com. Unfortunately, the situation at present is that you cannot fit fire sprinklers instead of passive fire protection but you may get a slight reduction in what the Local Authority normally require but you will usually have to fight for any relaxation.
What more you provide is down to you and what your tenants and the local authority when they find you require you to do. Local Authorities usually require the following fire safety precautions but the legality for requiring them is dubious:
- A fire alarm system, best to fit a grade A system. A ‘Grade A’ system is the highest specification for a fire alarm and has a control panel usually by the door and they don’t cost that much more than the more usual ‘D Grade’ system (smoke detectors all wired together and sound together) if you shop around. Budget £1.5k.
- Emergency lighting in the escape route. Budget £100 each
- An escape route from every room, except a bathroom protected by fire doors with overhead closers, intermescent strips with smoke seals and thumb turn locks on the bedroom and exit doors. Budget £200 to £600 each, the wide variation in cost is down to how much additional work is needed to fit the fire doors.
- Fire blanket in the kitchen and sometimes a fire extinguisher. Budget £30 – £90.
Nb local authorities and even individual officers vary in what they want and some just make it up as they go and there is little consistency. Like everything in this business try and negotiate.
The budget figures are an estimate using reasonable cost contractors. If you do it yourself most of your materials cost very little so you can save a lot. The counter argument is that the time spent on doing it yourself could be better spent working on developing your business, getting funding and finding more properties and leaving the management and renovation to others.
A nice philosophy, but I find developing the business does not take that much time it is comparatively easy to find and buy property and valuer’s and lenders may be very slow and awkward to deal with but finding people to manage and renovate my properties is much more difficult. When I renovate a property I always install the highest fire safety features and provide for the best amenity standards because it costs so little to do at that stage. If I was not renovating then I would wait and see what will be required, the standards are changing and the indications are that they are going to become less.
Most of the management standards which apply to all HMO’s, whether licensable or not are found in Statutory Instruments (SI) 2006 Number 372 and for licensable HMO’s the amenity standards e.g. adequate bathroom facilities, sinks in every unit of accommodation are found in SI 2006 No 373 Schedule 3 amended by SI 2007 No 1903. SI’s can be downloaded free of charge from the government web site opsi. There are no amenity standards specified for non licensable HMO’s.
Many Local Authorities are ignoring non licensable HMO’s i.e. those with less than three stories. Where they do become involved with non licensable HMO’s the standards the Local Authority can demand for non licensable HMO’s are based on the controversial and very subjective Housing Health and Rating System (HHRS). In practice, I expect most Local Authorities, where they take action against non licensable HMO’s, will demand similar amenity standards to licensable HMO’s.
Under the Regulatory Reform Order 2005 you are also required to carry out a fire risk assessment on a HMO but no one as yet seems to be bothering. The problem with ignoring the legislation is that if there ever was a death by fire, which is statistically very unlikely, the Coroner will want to see the risk assessment and want to know what precautions were taken.
Many Local Authorities also provide a guide to what standards they want on their web site, if yours don’t then look at other local authority web sites or homestamp which produces a very clear guide to fire precaution standards but remember they have no legal standing. Fire standards are supposed to be based on risk assessment. I do not get too excited about these standards as most of what is required provides little benefit and so is a waste of money or even harmful see my article ‘What is The Use of all This Legislation’ soon to appear on HMODaddy. You just learn to put up with it or try and avoid it.
I wish to make it clear I am not advocating unsafe or unfit HMO’s. I think it goes without saying any professional landlords will always ensure their properties are safe, clean and of a good standard otherwise they will not keep or attract tenants or remain in business.
(10) What does it cost to operate a HMO?
Having considered all the options I find it easier to make the rent inclusive of all bills i.e. council tax, water rates, TV licence, gas and electricity. If you provide 24/7 central heating, which I would recommend you do, ban electric heaters from the property as an electric heater will cost a fortune to run. When letting to professionals I would provide broadband. On average it costs me £3,200 per annum per property for the bills and that is providing 24/7 central heating. I find trying to cut central heating costs only saves £200 – £400 per annum and gives rise to great tenant dissatisfaction. To furnish a room costs about £200 if you shop around and find quality budget furnishings.
The cost of rent collecting, viewings, cleaning, repairs and maintenance is more difficult to assess. I find from operating the 70 HMO’s that I own, it costs on average £3,600 per annum per property to employ others to do all the work. If you do it yourself, it will cost very little, again it’s what is the best use of your time. Strangely, I find it costs about the same to operate a four unit HMO as it does an eight unit HMO.
(11) How much time does it take to operate a HMO?
I think it took me on average less than ten hours a week to run ten HMO’s by myself, doing most of the day to day work myself e.g. interviewing tenants, rent collecting, problem solving, buying and moving furniture, employing occasional cleaners and decorators, while in full time employment running another business and doing part time work as well. I operated up to 34 properties 25 of which were HMO’s again while in full time employment with the assistance of a full time handyman and a part time manager. This also included buying the properties and organising the renovation work.
To start a HMO is a different matter, this will depend what work is needed and it will always take you longer than you expect.
(12) Where should I buy?
To be sure of good demand go for the same areas as for single lets to single people e.g. near town centers and transport routes. However, I have found demand in some out of the way places, again suck it and see. Neighbours are of crucial importance. Most owner occupiers do not like you letting the property next door to them as a HMO and I can sympathise with them, they will complain to the local authority which will cause you problems so keep away from owner occupiers.
(13) What should I buy?
I find it is rarely cost effective to try and have a HMO with less then four lettable rooms. The condition of the property does not matter if you are going to renovate. It costs about the same to fully renovate a property in reasonable condition as it does a derelict property e.g. rewire, replumb, new kitchen, bathroom and windows, fit fire doors etc. The ideal property is cheap and provides a large number of units.
Often properties that are unsuitable for owner occupation e.g. no garden or parking, ugly, or otherwise unattractive to owner occupiers, can prove ideal for a HMO as they are cheaper and my tenants are not that put off by these things. Houses next to factories, railway and power lines, ex pubs, office blocks, flats above and behind shops are ideal.
(14) Do I need planning permission?
Under planning law a residential property can have up to six living as a single household (C3 use). Above that number the property ‘may’ need planning permission depending on size and impact on the local area. The problem is that different local authorities have varying interpretations as to the meaning of the word ‘household’ or enthusiasm for enforcement. Most will accept up to six persons living in a property providing they share at least a kitchen or bathroom or if they don’t they can rarely do much about such a property. Again you are at the discretion of the Local Authority so it is often better not to ask and keep well away from them. After ten years or four years if they are self contained e.g. flats, use becomes established and the Local Authorities are unable to take enforcement, i.e. stop the property being used as a HMO.
(15) Easy way to start
The easiest way to buy a house is to have an ordinary buy to own mortgage, some lenders give 100% mortgages, and start to take lodgers. There is also a £5.5k pa tax allowance for lodgers.
Generally, owner occupier mortgages are easier to get and you do not have to show rental income or with a ‘Self Cert’ mortgage any personal income.
Choose, where possible, your lender carefully as some are open to converting a ‘Buy to Own’ mortgage to a ‘Buy to Let’ mortgage with no or minimal fees. Thus there is nothing to stop you moving on and buying another house and doing the same all over again. And they say that first time buyers cannot get on the housing ladder!
Beware of getting an ordinary buy to let mortgage and then renting the property as a HMO as this may be considered fraud if you had no intention of letting the property as a single let when you applied for the mortgage.
(16) The Tenant
The last but most important part of your HMO business is your tenants – No tenant no business. Treat your tenants well and with respect but do not expect the same in return and you will not be disappointed! Attend to complaints and repairs quickly aim for 48 hour service, so as not to give your tenant an excuse for withholding the rent. The key to success is being efficient and providing good service. Log all complaints and photograph with a date stamp camera as necessary for evidence. Follow up arrears immediately – this is of crucial importance. Do not allow non payment. Install a ‘No pay no stay attitude’ in your tenants. From bitter experience almost all excuses for non payment are lies.
Help your tenant if they lose their job to claim Housing Benefit (HB) so you need to know how the HB system works. There is self interest here, if the tenant does not get HB you rarely get paid. Remember most newly unemployed are entitled to the full rent for the first 13 weeks but you have to ask and again fight the system.
JUST DO IT AND BEST OF LUCK!
Jim Haliburton is a private landlord owning over a hundred properties, mainly HMO’s. He has written a book called ‘How to Become a Multi Millionaire HMO Landlord’ and runs courses on becoming an HMO landlord. His web site is HMODaddy