Photo by WJF Developments

This month, I want to take it back to basics and talk about how to structure the purchase and refinance of an HMO. I have spoken to several people recently who have asked how it all works, so I thought I’d summarise it for you.

Stage 1: Purchasing Your HMO – What to Think About

You will need a bridge to purchase your property if it is not in a lettable condition, doesn’t have an HMO licence (or could not get one), doesn’t have an EPC rating of A–E, or needs work carrying out.

I know there are investors who like to avoid bridging, but we are seeing more often that lenders want you to do things the right way. It’s more important than ever not to use a standard mortgage to purchase the property, and lenders ALWAYS find out in the end!

Bridging offers you some additional protection too. The valuer will give you a GDV at the beginning, so you know what you are getting into. It also allows you to borrow more than you would on a standard BTL mortgage.

Bridging can work in one of two ways. Either it can provide funds towards the purchase while you fund the refurbishment/conversion works, or you can borrow towards both.

Borrowing funds just for the purchase works well when the build costs are lower (under about £75k), or if the property isn’t profitable as a project on its own. We can leverage up to 90% of the purchase price to give you that bit extra. The important factor is remembering that you need to repay your bridge, and the gross loan can never be more than 75% of your post-works value (GDV).

You can also fund most of the purchase cost, as well as the refurbishment works. The maximum loan is always worked out from the GDV, and it is usually 65–70% of this figure. You then deduct all of the works costs, as they will always fund them in full. What is left covers your day-one loan (towards the purchase), as well as fees and interest.

If you have a profitable deal, then it will be capped at 75% on the day-one loan. The works are funded in arrears, so you need to have some funds (about £25,000) to start the works. We can have a chat about the options on a case-by-case basis and see which option suits your circumstances.

We will always need a valuation for bridging finance when you are converting to an HMO. You will provide the valuer with a schedule of works to include a breakdown of the costs, floor plans and timescales. The valuer then needs to confirm that this is realistic, so there is no point underestimating these costs! The valuer will give an end value (GDV) at this point too, so the more accurate your schedule is, the more accurate your GDV will be.

If you aren’t borrowing for the refurbishment costs, we will need to see all these funds in your bank account. Gone are the days of using credit cards and borrowing to fund the refurb!

My Top Tips for Bridging

1. Estimate the costs and timescales realistically. You will only be disappointed when it doesn’t go perfectly to plan!
2. Use a broker who will be able to do the bridge and term (like us!) and, ideally, a lender who will lend for the bridge and can then offer term mortgages for the property. This can reduce costs and give you more certainty over your exit.
3. You don’t need a property that is mortgageable, so find one without a kitchen or bathroom, or one with some issues that you are happy to resolve which could put off other potential buyers. This is where you are more likely to add value to your project.

Stage 2: Refinancing Your HMO

Remember to keep in touch with your broker as you go through the refurbishment so that you can start the refinance process as early as possible. We would start to look at it about four weeks before it is finished and ready for a valuation.

What to Consider When Choosing Your Lender for the Refinance

1. Which valuer you can use and the valuation methodology. Make sure you know what the valuer said regarding the GDV on your bridging report to see if an investment valuation is achievable.
2. Can you use the same lender as you used for the bridge? This will save fees, legal costs and time! It’s worth balancing all the costs.
3. Has Land Registry been updated to show you as the owner? We cannot complete the refinance until this has happened, so it is worth keeping an eye on. We can expedite the process with HM Land Registry, but only once we have a mortgage offer.
4. The interest rate. There are several reasons why the rate isn’t the most important factor. For example, if you are refinancing within six months, there has been a large uplift from the purchase price, or you require an investment valuation, these circumstances will affect the lender. This means that, to achieve the maximum LTV, you may have to compromise on the rate.

How Does the Refinance Application Work?

1. We usually start the process a month before the property is finished. This allows us to discuss the property and the lender options, then apply, with a bit of room in case there is an issue!
2. We will book the valuation for when the property is finished. We used to want this done before tenants moved in, but with the new rules around APTs, we are seeing valuers reduce their figures on empty properties. We can look at this on a case-by-case basis.
3. Once we have the valuation back and you have provided all the documents the lender has requested, it will be reviewed for formal offer.
4. When we have the offer, the solicitors will be instructed. If we are staying with the same lender, then this will be minimal and take a couple of weeks. If we are moving lenders, then it is a full legal process and can take 3–5 weeks, depending on the lender and solicitor. With the specialist lenders, we have more control over this process. We are copied into emails, have access to documents and can move things through a bit quicker, particularly at the legal stage, which can be very time-consuming due to the volumes involved.
5. We may need the property to be let prior to completion, so start marketing your rooms as soon as possible.
6. HMO licences: We do not require the HMO licence itself but will need confirmation that the council will grant you a licence and that you have paid for it. The actual licence can take months to appear!
7. On completion, the bridge is paid off and the rest is paid to you – hopefully ready for the next project!

I hope this has been useful. As always, if you want to chat about a particular case, then please book in a call here and we can run through the details.

About the Author:

Ellie Broadhurst is a specialist mortgage broker working at Baya Financial in partnership with The HMO Roadmap. She works with HMO property investors throughout their journey, from clients starting on their first project through to experienced portfolio landlords and developers. Learn more about Ellie here.