Back to HMO Basics

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Back to HMO Basics.

What is the definition of an HMO?
Now please remember that the definition has nothing to do with licensing and it has nothing to do with planning, it is simply the “definition”

1.Definition of an HMO
Your home is a house in multiple occupation (HMO) if both of the following apply:
• at least 3 tenants live there, forming more than 1 household
• you share toilet, bathroom or kitchen facilities with other tenants

Your home is a large HMO if all of the following apply:
• it’s at least 3 storeys high
• at least 5 tenants live there, forming more than 1 household
• you share toilet, bathroom or kitchen facilities with other tenants
A household is either a single person or members of the same family who live together. A family includes people who are:
• married or living together - including people in same-sex relationships
• relatives or half-relatives, for example grandparents, aunts, uncles, siblings
• step-parents and step-children
Source www.gov.uk

So as we can see here if you have 3 people, forming more than 1 household, with shared facilities then you have an HMO

I know I mentioned this earlier but please don’t confuse this with article 4 planning OR Licensing, this is simply the definition.

2. Why do we invest in HMOs?
We purchase or control several income streams at once, for example we can control a property that has 6 useable bedrooms, therefore giving us 6 separate income streams from each property.
HMOs are more work than single lets but you won’t see the same returns, they are much better.

3. HMO v’s Single lets: -
Let’s look at a simple comparison Single let property vs an HMO property;
Presuming that the property is worth £150k, you will need to provide a deposit of around 25% = £37500
Now let’s assume the interest rate (interest only mortgage) is 6% (we always stack towards 6% as this gives us some room to move in the event of the rates increasing)
The mortgage cost for the property would be £562.50 per month.
The stamp duty for this property would be £5000.
A light refurb, possibly £3000 and legals £1000.
The total estimated costs per month could be around £650
As this is a single let property the rent (based on my local area) maybe around £845 per month.
That would leave you with a staggering profit of £195 per month!

How does that sound? Remember that this is also before any Tax liabilities that you will have.

Let’s look at the ROI (return on investment) for this example.

We calculate the ROI by using the following equation: -
Annual profit / initial investment x 100
So, in this case the annual profit would be £2340
The initial investment would be £46500
This would bring a 5.03% ROI
How does that sound? Well I guess it’s much better than the bank rates but can you do better?

Now let’s look at the same property but converted into a 5-bedroom HMO

Purchase price £150k, after conversion it is now a 5-bedroom HMO, the extra bedroom could come from a communal area, for example if the property has a dining room and a living room then we can re purpose one of the rooms and turn it into a bedroom.
(please remember that you will need to obtain building regulations for most conversion works)

Now let’s look at the difference in the numbers: -
5 bedrooms achieving £400 per month = £2000 per month gross income.
We always factor a 10% allowance for voids and 5% for maintenance which totals £300.
The mortgage will be around £562 based on 6% (remember this is a high percentage).
We have an all-inclusive model which means we pay the bills each month, that includes, Gas, Water, Electric, Council Tax (for non-student houses), Wifi and a cleaner. The bills come to around £350.

So, the profit per month on this HMO example is £788 which is £9456 per year.
We have allowed for a refurbishment of £25000 in order to convert, Stamp duty of £5000 and legal costs of £1000, a deposit of £37500 which is a total investment of £68500.

So, the ROI on the HMO example is now
Annual profit £9456 / initial investment of £68500 = 13.8%
Now that’s a much better return and a much stronger cash flow and that is why we choose HMOs instead of single let property.

(Please note that this information is an example and must not be construed as financial or Tax advice.)

You must conduct your Due Diligence

• The first thing I advise is to set up your company structure,
speak to a Tax accountant and let them help you with this, get it right from the start rather than attempting to reverse engineer it when it’s too late!
• Choose your investing area, this will take time, and there are many things to consider. Does the area have article 4 planning direction? (We will cover this shortly) Does the area have any additional licensing restrictions? And is there enough demand in the area for your tenant demographic? i.e. if you are choosing to operate student lets, what is the supply / demand for student rooms in your area? If you are not sure then speak to a local letting agent, they are very helpful!

Does your investing area have Article 4 planning direction?
This is often confused with Licensing but it is totally separate.
In areas that don’t have Article 4 planning direction you are able to convert a dwelling house which is planning class C3 into a small house in multiple occupation which is planning class C4 up to a maximum of 6 sleeping people. This can be completed under permitted development which is contained in Schedule 2 of the Town and Country Planning general permitted development order (England) 2015.
In certain areas, local Councils have decided to restrict any future development of HMOs by removing this permitted development using Article 4 direction (which takes away the permitted development right)
In these areas, you would need to apply for planning permission in order to convert the property into an HMO.
HMOs that were operating as such, before the introduction of Article 4 have been given “Grandfather rights” provided they are proven to have established use.

Article 4 doesn’t mean that you can’t invest in these areas, but it may make it a little harder. You can still buy, or control HMOs that have the necessary grandfather rights.

Licensing
HMOs that fall under the following category will need to be granted a Mandatory HMO Licence: - (remember that this is licensing NOT planning).
5 or more people forming 2 or more households with shared facilities, over 3 or more floors.
This is about to change as we have had notification from the Government that this will be altered to 5 or more people, forming 2 or more families with shared facilities, regardless of how many floors.
We are likely to see these changes implemented at some point during 2018.

Some areas in the country also operate additional and selective licensing schemes, which may mean that if you have any HMO, (remember the definition) 3 or more people forming 2 or more households with shared facilities then you may need a licence anyway.
Call the housing team in your chosen area and ask if they have any of the above restrictions.
Applying for a licence may seem a little daunting, but it’s really not that bad, and most areas have an online application process.

Required standards.
The next thing you will need to obtain is the Amenities Standard document for HMOs in your area (Sometimes it may be called something different). This document will list all of the standards that you will have to comply with in your HMO, it will tell you the minimum room size requirements, the fire safety requirements and the management requirements that you must adhere to. It’s really a good idea to get hold of this and study it as this may have an effect on your deal stacking when you start to view properties.

Areas that work well: -
Try to get as close to the city centre as possible, tenants really like to have all the amenities close by, areas that are close to public transport links and train stations work really well.
If you are looking for students then does the area have a suitable university close by? It’s always good to call the housing officer at the university and ask them what the population of students is like and if this is growing or decreasing, also ask if they have any plans of building any more student accommodation in the local area as this may have an impact on your strategy.

The house: -
Is it suitable, will it be compliant to the new mandatory licensing regulations that we are expecting later this year?
Will the room sizes be large enough?
Will it lend itself to a minimum of 5 bedrooms? Ideally, we like to put double beds in rooms (even if they are for single occupancy) as they sell better and tenants stay for longer.
We will need a communal area in the property, somewhere for the tenants to socialise, eat meals and relax.

So, these are the fundamentals that you should get familiar with before investing.

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