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Categories: Case study | commercial mortgages

Getting into the world of investment in commercial or semi-commercial property (a building which is part residential, part business) can be tricky. This is because to secure a commercial or, in the instance of these clients, semi-commercial mortgage, many lenders will want you to have had experience in the sector already.

This always begs the question – how can you get experience, without being able to buy a property? It is less common that investors have funds to buy a property outright, so it does present a real challenge.

Happily though there are some lenders who can help, and in this case the clients needed us to do just that, so they could secure a property which comprised a takeaway restaurant on the ground floor and four flats above.

The clients had decided to diversify into semi-commercial property for three key reasons. 

First of all, the yield is typically higher than on a buy to let, because commercial premises attract higher rents. 

Second of all, the clients view was that a semi-commercial premises would have a lower impact on them, in terms of the management. 

This is because, with a commercial premises, a lease is typically set up under a “fully repaired and insured” basis (FRI lease), which essentially means the tenant is responsible for maintenance and insurances on the premises they rent.

Thirdly, a commercial lease is usually over a longer period – often a minimum of three years - so you have a longer guarantee of rent. What’s more, because the FRI lease, the likelihood is you have peace of mind that someone else is maintaining your security property for you over that timeframe.

By comparison, if you let out a residential property, you as the landlord are responsible for repairs, and some of the insurance costs (building insurance certainly, and most likely contents insurance to cover white goods or fixtures and fittings that you have supplied in the property).

Contents

The case

Investment route: Existing limited company set up as a special purpose vehicle (SPV) specifically for property investment.

The existing portfolio: Four buy to let properties, no commercial.

The property: A semi-commercial premises comprising takeaway restaurant on the ground floor and four flats above.

The tenancy arrangement: Fully repaired and insured (FRI lease) on the commercial premises, standard buy to let Assured Shorthold Tenancies on the flats.

The borrowing requirement

The clients were looking to invest via a limited company structure.  They wanted to secure a loan that was 75% of the property value. Their priority was to maximise the monthly income from the property, so they were looking to borrow on an interest-only basis.

Initially the clients wanted a five-year term, but rates in the marketplace at the time meant that a two-year deal would be more cost effective for them, so that was their final choice.

The challenges we overcame

Without previous commercial experience, there were immediately lenders that would not accommodate the clients’ application, so that was challenge number one. With the lender we secured, the clients experience with their four buy to lets was taken into consideration and helped secure the deal.

Another factor we immediately established was how much of the property was commercial and how much was residential.

Semi-commercial lenders typically prefer a larger weighting in favour of the residential portion of the property. This comes down to risk and the ease of reselling or renting a residential premises, versus a commercial one, if in an extreme situation they had to repossess and recoup a borrowers debt.  

Happily, the security property had a 60%/40% split, with the residential element being the greater proportion of the two.

The client was investing via their pre-existing limited company structure. 

This can present a challenge because many lenders prefer limited company structures to be set up specifically for property investment. This comes down to the ring-fencing of risk between the different operations (if a trading limited company fails, the property may be vulnerable to being used to cover a debt). Fortunately though the company was already trading, its operations were purely related to the clients other properties. 

Where mortgage interest rates can differ significantly in the buy to let space, if you are investing via a limited company, rather than in personal name, this is not the case with semi-commercial or commercial property. So this was a potential benefit to the clients with this investment, compared to their previous buy to lets.

Perhaps the greatest challenge of this case was the footprint of each of the four flats, above the takeaway property. All were under 30 square metres. Many lenders deem this as a risk they are not prepared to take, as they are concerned about the resale value of such small homes.

When conducting our due diligence the first lender we approached was not able to proceed for this very reason. However, we did manage to accommodate all the clients’ requirements and, despite the challenges, got them a great deal that was aligned to their budget.

The solution

Property value: £230,000

Loan amount: £172,500

Loan to value: 75%

Rate: 6.54%

Term: 2 years

Payment basis: Interest only

Monthly mortgage payment: £944

Monthly rental income: £2,700

Lender arrangement fee: 5% of the loan

Gross yield (before costs): 14%

Annual rental income minus mortgage costs: £21,072

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