Understanding the opportunity cost of any decision you make is critical to ensure that you make the best choices to maximise your profits, and ultimately to the long-term earnings in the buy-to-let (BTL) market.
While many individuals have become involved in property investment because they understand the opportunities to make money through leverage and capital growth or high yields, there are many who do not fully understand opportunity cost and so do not fully maximise their profits.
Anyone who enters the property market does so to generate income or profit on their investment. However, there are those who will buy anything on the market, holding on to these properties without thinking whether they could be making more money elsewhere?
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When looking at the BTL market, there are many areas that should be considered when assessing the opportunity cost. A wise landlord will continually look at their portfolio to ensure that they are making the most of the opportunities available to them. Hence the reason you constantly see BTL portfolios coming onto the market, because the investor decides that the money tied up in this portfolio could be better spent elsewhere.
So, when looking at opportunity costs what should the investor be constantly reviewing?
House prices
There are marked differences in the UK housing market when it comes to house price growth in 2006. The investor in Northern Ireland is returning 52.9 per cent in comparison to those in the North of England at 3.10 per cent. Though is it the right time to move into the Northern Irish market while it is at the top, or would leaving that market and investing in the North produce greater returns long term?
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Consideration must be also given to the price range of properties, because the potential slowdown in the UK market may mean that a property investor might be better off turning their attention to Europe – especially the Baltic States, where the projected growth curve is far higher than that of the UK.
Rental income
The amount of rent a particular property can return varies widely, not just from a regional perspective but also the price of the property. There are areas in the country where there is an extremely strong rental culture with a large influx of Eastern European immigrants. As a result rental and therefore yields are higher.
It is a well known fact that the cheaper the property the greater the potential yield. So, if an investor has seen his property increase but the rent lag behind, it may be time to sell and perhaps buy two smaller ones for the same money. Perhaps in an area that has not seen such high growth in property prices.
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The diversity in rent to property price across the UK is often not well known, but spending a little time on the plethora of letting agent’s websites quickly can establish rental hotspots.
Capital gains
A shrewd landlord will also assess their portfolio on a regular basis to make sure that they are using capital gains allowances to minimise any loss of profit on resale. This is again an opportunity cost, as sitting on property without taking into account the potential tax liability is an accident waiting to happen
Releasing equity
One of the main drivers in BTL investment is using the least amount of personal capital when purchasing property to create the greatest leverage.
The opportunities lost by sitting on vast amounts of equity in a BTL property when this money could be released to be used as a deposit on a further property is one experienced landlords fully understand.
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The more generous loan-to-value (LTV) percentages now offered, coupled with more flexible ways to ensure that the rental income fits the lending is not just for new investors but also those who have been in the market for some time.
So, what does opportunity cost mean for the private investor?
I would say it is always looking at their equity and investment and seeing how well it is performing. By working money hard and maximising potential leverage, the investor can maximise the opportunities available to them.
Broker opportunities
While I have written about the opportunity costs for the landlord, what are the opportunities for the mortgage broker? Many brokers see their only servicing role in BTL as contacting clients at the end of a two or three-year period and remortgaging to another lender.
Through this lack of action, could you also be missing other opportunities within the BTL market? Ask yourself the following:
- How many of your clients are sitting on equity within their portfolio?
- How many of your BTL clients are unaware of the recent more generous LTVs and rental calculations?
A good broker will be communicating constantly with their clients, giving them an update not only of the products in the market but perhaps also informing them on house price changes and new legislation in the market. A good client contact strategy pays long-term dividends with constant repeat business, as inevitably the new BTL investor will buy another and another.
To give you an example of this, how many of your BTL clients are aware of the recent changes to holding tenants deposits? To help, I have detailed these changes below;
As of 6 April, the Tenancy Deposit Protection (TDP) scheme came into force, effecting how all landlords and agents handle and reimburse the deposits of their tenants in relation to assured short hold tenancies (ASTs) in England and Wales. For all new tenants on an AST scheme after this date, tenancy deposits will have to be covered by one of the two TDP schemes. Any existing tenant’s deposits will fall under the scheme when their renewal is agreed.
Landlords have the option of putting their tenant’s deposits into one of two schemes. These being:
- A custodial scheme where the tenant will pay the deposit to the landlord or agent as normal. The landlord or agent will then pay the deposit into the independent custodial scheme. Then at the end of the tenancy agreement the landlord and the tenant agree how the deposit should be apportioned and the money will be refunded as appropriate. This is provided at no cost to the landlord or tenant.
- An insurance-backed scheme, where the tenant pays the deposit to the landlord who will then retain it for the duration of the tenancy. However, he must inform the administrator of the insurance-backed scheme of the details and amounts of the tenancy. The administrator of the scheme then ensures the return of the deposit to the tenant when and if they are entitled to it. This scheme will involve a cost to the landlord to be set by the individual scheme operators.
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Whichever scheme is chosen, the landlord will have to provide evidence to the tenant of how their deposit is being handled. Failure to do this or not use any of the schemes will result in action being taken against the landlord. If the tenant reports their landlord is not operating under either scheme they will ordered to use the scheme, repay the deposit to the tenant within 14 days and be ordered to compensate the tenant with an amount equal to three times the amount of the initial deposit.
If you require more information about this scheme you can log on to www.arla.co.uk or contact an Association of Residential Letting Agents-registered letting agent who will be able to provide you with details of the scheme. You can also visit www.thedisputeservice.co.uk to get information and the rules of the scheme, including case studies and frequently asked questions.
So go on, make the most of the opportunity, let them know. It may cost you if you don’t.
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