Should you invest in an HMO?

A common question we get asked by new clients is “Do you source HMOs?”

An HMO (House in multiple occupation) is a property that is tenanted by at least three people from two or more households (families). They share facilities like bathrooms and kitchens and typically house students and young professional.

We own a few HMOs ourselves, and are well versed in the pros and cons of this type of investment, especially for remote investors. In this article, we explore the key differences between HMOs and single BTL properties as investment vehicles and dive into the detail of the HMO market.

Let’s start with some facts:

•  There are 4.7m houses in the Private Rented Sector – 10.6% of these (497,000) are HMOs

•  Most of the HMO stock are larger family houses or hostels that have been converted over the years

•  Most HMOs are occupied by 18–34-year-old students, young professionals and migrant workers

•  HMOs must conform to minimum space standards and most require some form of Mandatory licensing

•  It is common for modern HMOs to include an en-suite bathroom and some even include a kitchenette, making them not too dissimilar to flats

•  The distinguishing feature of an HMO is a shared communal space, typically a kitchen or a living/dining room

The main attraction

The clearest benefit of investing in HMOs is that they can generate more rent compared to a single BTL. You can expect to receive double or sometimes even triple the rent, especially on larger properties.

The advantages of HMOs

•  Gross rental yields are usually higher than a single BTL because of the higher rent.

•  Rental arrears and void periods can be less impactful to your income stream because if one tenant moves out, you still have other rooms tenanted and generating income.

While the potential gross income from HMOs is very tempting, you must go into this kind of investment with your eyes wide open. Houses of multiple occupation also have their own challenges.

The disadvantages of HMOs

•  HMOs are much more regulated than single BTLs and you will likely need a license to operate one, which can easily set you back £1,000.

•  HMOs that already have a license tend to be overpriced as they are valued based on the income they generate rather than the ‘bricks and mortar’ value of the property.

•  HMOs tent to be larger properties and therefore are typically more expensive to purchase

•  It is more difficult to get a mortgage for an HMO property, with many lenders requiring applicants to be ‘experienced landlords’ and charging higher mortgage interest rates.

•  Capital growth on this kind of investment can be much lower than on single let properties because the market consists almost exclusively for specialist landlords

•  An HMO is usually rented fully furnished, so the cost of furnishings needs to be taken into account, as well as the cost of replacing furniture as it wears.

•  Tenant turnover is usually quite high in an HMO. This means a lot of effort and cost are involved with keeping an HMO full.

•  Maintenance costs tend to be higher than a standard BTL property. This is partly due to the tenant turnover but also the higher wear and tear that comes with the type of tenant that you get in HMOs – young, first time tenants with no previous experience of living on their own.

•  The tenant type increases the risk of domestic conflicts between tenants.

•  Many property management companies are not equipped to deal with HMOs, and those that are make their money off the incidental fees they charge, so it is likely that you will pay more in fees and need to have a more hands-on approach to management.

•  HMOs are typically rented bills inclusive so you need to remove those costs from your profit and be prepared to manage multiple utility providers.

•  In the Student market, there is a decreasing demand for HMOs due to an influx of purpose-built student accommodation over the past decade.

•  There is a potential for the Valuation Office Agency (VOA) to re-band the property for council tax purposes. This could increase your council tax bill from £1,000pa to £1,000 per room! If you are already charging market rents, it is difficult to pass this extra cost on to the tenant and will significantly impact not only your rental profit, but as discussed above, also the value of the property.

To summarise, while an HMO offers the benefit of a higher rental income and therefore higher gross yields, the upfront and ongoing costs are also higher, and there is a lot more time and effort involved with owning and managing them.

But how does this compare to single BTLs?

Advantages of BTLs

•  The process of purchasing a BTL property is much more straightforward.

•  A more affordable option – for the same investment as an HMO, you could purchase 3 single BTLs in 3 different areas, diversifying your income.

•  A low risk way for first time investors to get into property investment.

•  Low time involvement – some tenants stay in their property for over 10 years without any issues.

•  Higher capital growth potential.

•  Higher demand for family homes because of their attractiveness to normal families.

•  Lower maintenance costs, because a family usually consists of more responsible tenants

•  Lower management costs – due to less effort involved in managing 1 family.

•  A ‘Set and forget’ strategy – enabling you to create a passive income stream.

Disadvantages of BTLs

•  When a tenant moves out there is a total loss of rental income until a new tenant moves in, however, if you purchase in a desirable location with high tenant demand, there shouldn’t be too much of a rental void.

•  Lower rental income because you only have one tenant, but net return is typically higher because of the capital growth.

In Conclusion

While on the surface, a single BTL produces a lower gross rental yield, it is easier to buy, set-up and manage and over the long term, taking into account the capital growth, the net returns are typically much higher.

As we always tell our clients, if you want the excitement (and stress), go ahead and buy an HMO. However, if you want to build wealth, buy a well-diversified portfolio of single BTLs, because excitement and wealth creation seldom go hand in hand.

We hope this article helps you to make a more informed decision about what type of property investment strategy is right for you. But if you have any additional questions, please get in touch and one of our team will be happy to help.

A common question we get asked by new clients is “Do you source HMOs?”

An HMO (House in multiple occupation) is a property that is tenanted by at least three people from two or more households (families). They share facilities like bathrooms and kitchens and typically house students and young professional.

We own a few HMOs ourselves, and are well versed in the pros and cons of this type of investment, especially for remote investors. In this article, we explore the key differences between HMOs and single BTL properties as investment vehicles and dive into the detail of the HMO market.

Let’s start with some facts:

•  There are 4.7m houses in the Private Rented Sector – 10.6% of these (497,000) are HMOs

•  Most of the HMO stock are larger family houses or hostels that have been converted over the years

•  Most HMOs are occupied by 18–34-year-old students, young professionals and migrant workers

•  HMOs must conform to minimum space standards and most require some form of Mandatory licensing

•  It is common for modern HMOs to include an en-suite bathroom and some even include a kitchenette, making them not too dissimilar to flats

•  The distinguishing feature of an HMO is a shared communal space, typically a kitchen or a living/dining room

The main attraction

The clearest benefit of investing in HMOs is that they can generate more rent compared to a single BTL. You can expect to receive double or sometimes even triple the rent, especially on larger properties.

The advantages of HMOs

•  Gross rental yields are usually higher than a single BTL because of the higher rent.

•  Rental arrears and void periods can be less impactful to your income stream because if one tenant moves out, you still have other rooms tenanted and generating income.

While the potential gross income from HMOs is very tempting, you must go into this kind of investment with your eyes wide open. Houses of multiple occupation also have their own challenges.

The disadvantages of HMOs

•  HMOs are much more regulated than single BTLs and you will likely need a license to operate one, which can easily set you back £1,000.

•  HMOs that already have a license tend to be overpriced as they are valued based on the income they generate rather than the ‘bricks and mortar’ value of the property.

•  HMOs tent to be larger properties and therefore are typically more expensive to purchase

•  It is more difficult to get a mortgage for an HMO property, with many lenders requiring applicants to be ‘experienced landlords’ and charging higher mortgage interest rates.

•  Capital growth on this kind of investment can be much lower than on single let properties because the market consists almost exclusively for specialist landlords

•  An HMO is usually rented fully furnished, so the cost of furnishings needs to be taken into account, as well as the cost of replacing furniture as it wears.

•  Tenant turnover is usually quite high in an HMO. This means a lot of effort and cost are involved with keeping an HMO full.

•  Maintenance costs tend to be higher than a standard BTL property. This is partly due to the tenant turnover but also the higher wear and tear that comes with the type of tenant that you get in HMOs – young, first time tenants with no previous experience of living on their own.

•  The tenant type increases the risk of domestic conflicts between tenants.

•  Many property management companies are not equipped to deal with HMOs, and those that are make their money off the incidental fees they charge, so it is likely that you will pay more in fees and need to have a more hands-on approach to management.

•  HMOs are typically rented bills inclusive so you need to remove those costs from your profit and be prepared to manage multiple utility providers.

•  In the Student market, there is a decreasing demand for HMOs due to an influx of purpose-built student accommodation over the past decade.

•  There is a potential for the Valuation Office Agency (VOA) to re-band the property for council tax purposes. This could increase your council tax bill from £1,000pa to £1,000 per room! If you are already charging market rents, it is difficult to pass this extra cost on to the tenant and will significantly impact not only your rental profit, but as discussed above, also the value of the property.

To summarise, while an HMO offers the benefit of a higher rental income and therefore higher gross yields, the upfront and ongoing costs are also higher, and there is a lot more time and effort involved with owning and managing them.

But how does this compare to single BTLs?

Advantages of BTLs

•  The process of purchasing a BTL property is much more straightforward.

•  A more affordable option – for the same investment as an HMO, you could purchase 3 single BTLs in 3 different areas, diversifying your income.

•  A low risk way for first time investors to get into property investment.

•  Low time involvement – some tenants stay in their property for over 10 years without any issues.

•  Higher capital growth potential.

•  Higher demand for family homes because of their attractiveness to normal families.

•  Lower maintenance costs, because a family usually consists of more responsible tenants

•  Lower management costs – due to less effort involved in managing 1 family.

•  A ‘Set and forget’ strategy – enabling you to create a passive income stream.

Disadvantages of BTLs

•  When a tenant moves out there is a total loss of rental income until a new tenant moves in, however, if you purchase in a desirable location with high tenant demand, there shouldn’t be too much of a rental void.

•  Lower rental income because you only have one tenant, but net return is typically higher because of the capital growth.

In Conclusion

While on the surface, a single BTL produces a lower gross rental yield, it is easier to buy, set-up and manage and over the long term, taking into account the capital growth, the net returns are typically much higher.

As we always tell our clients, if you want the excitement (and stress), go ahead and buy an HMO. However, if you want to build wealth, buy a well-diversified portfolio of single BTLs, because excitement and wealth creation seldom go hand in hand.

We hope this article helps you to make a more informed decision about what type of property investment strategy is right for you. But if you have any additional questions, please get in touch and one of our team will be happy to help.