The number of product options for landlords is declining as buy-to-let lenders tighten their criteria.
Tougher regulation proposed in March has made it more difficult for buy-to-let landlords to borrow the sums they need. The threat of stricter affordability testing has prompted lenders to raise their interest stress rates and rental coverage ratios.
Following a four-month review of the buy-to-let market, the Prudential Regulation Authority (PRA) determined that lenders might relax underwriting standards to meet their targets. Its proposed changes include tougher stress-tests that take into account the effect of upcoming tax changes for buy-to-let borrowers.
Stricter underwriting has lowered effective LTVs
Many lenders have raised the ratios they use to calculate minimum rental cover to 145% or higher.
This means that the rent a property generates must be at least 1.45 times larger than the interest repayments for the mortgage secured against it. For typical buy-to-let applications, this figure used to be around 125%.
Rental income is a prominent factor in determining maximum borrowing limits. Assuming level rents, an increase in the rental coverage ratio from 125% to 145% reduces maximum borrowing by 13.8%. Thus, the effective loan to value (LTV) lenders can offer has lowered for landlords in many areas of the country.
Case study: the effect of tightening criteria
One client was remortgaging two properties with one lender and buying a third property with a second lender.
The first lender completed one remortgage, but put the second on hold until the retail unit below the property was occupied. By the time the application could continue, both lenders had increased their rental cover calculations. The client’s maximum borrowing on the second property decreased by £43,000, leaving insufficient capital to complete the purchase of the third property.
As a result, the whole transaction fell through.
Is this trend likely to continue?
At present, it is hard to say how many more lenders will tighten their criteria, and to what degree.
In its first Financial Stability report following the EU referendum, the Bank of England’s Financial Policy Committee (FPC) discussed the PRA’s proposals. Stating that it had welcomed them back in March, it nevertheless acknowledged that a rental cover ratio of 125% was broadly sufficient.
Despite this, larger banks and building societies have continued to revise their criteria. And on 10 August, Sky News reported that the Financial Conduct Authority (FCA) was considering encouraging smaller lenders to do the same.
Currently, a number of lenders continue to offer deals on favourable borrowing terms. 125% rental cover is still common, and low interest rates mean that competitive deals are still available.
But lenders could continue to make changes that decrease borrowing limits. For landlords who are looking to refinance or expand their portfolio, acting sooner rather than later may be a wise decision.
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