The guide to HMOs

Categories: hmo | guides | buy to let mortgage guides

When is a property considered an HMO?

A property is classified as an HMO (House in Multiple Occupation) if it has at least 3 tenants, who live separately, so form more than 1 household and share kitchen and bathroom facilities.

Lender definitions of an HMO can vary from council definitions of an HMO, so make sure you are clear on both.

Sometimes HMOs require a licence from the local council (see “Getting an HMO license" below).

How do HMOs work?

HMO’s offer tenants a cheaper way of living than renting a full house or flat to themselves, this is typically why they offer strongest appeal to students and young executives starting their careers, who are still on modest incomes, or want to enjoy communal living arrangements.

For landlords, HMO’s offer higher yields. This is because multiple rental incomes, rather than just one household rental income, will usually amount to a greater total income overall (see “Advantages of an HMO” below).

HMO mortgage criteria

Whether you're an experienced property investor or a first-time rental property buyer, it's important to understand the requirements for HMO mortgages.

Here’s an overview of HMO mortgage criteria:

HMO mortgage licenses

If your HMO property requires a license (not all do), you need to get it from the council local to the property. HMO properties that have five or more tenants who are not related usually need to have a license. A lender will require that any property needing a license has it in place by completion of a mortgage.

Lender criteria

Each lender has their own criteria. We can assist you in exploring different options available in the market. Lenders consider various factors when deciding on a loan, such as rental income, property condition, the borrower's experience and financial stability.

Affordability assessment

The lender uses the expected or actual rent from the property in an affordability calculation. The calculation not only assesses whether you can afford the mortgage on the face value of the monthly payment, but also under worse circumstances.

A “stress rate” (a higher rate of interest) and a rental coverage amount (an amount of 125%, 145% or possibly more that the rent must exceed the monthly mortgage payment by) is used in the calculation to assess whether the mortgage remains affordable to you if it becomes more expensive, or you are faced with a tenant not paying the rent.

Property survey

A property survey plays a vital role in the HMO mortgage process. An appraiser professional valuer, appointed by the mortgage lender, assesses the value and suitability of a property as security for the loan. It They also identifies identify any issues that may impact its worth or qualification as an HMO.

HMO mortgages and fees

In essence, HMO mortgages work similarly to standard buy to let mortgage, they are a more specialist area of borrowing and so there are fewer lenders that offer them. However, with over 80 buy to let lenders out there, the number that offer HMO products amongst them is still broad.

Loan to value

Loan to values on HMO mortgages are up to 85%, so you would need at least a 15% deposit (15% of the value of the property) to invest in an HMO property. There are very few lenders at this loan to value, but there are more at 80% loan to value and even more at 60-75% loan to value.

If you are struggling to raise a deposit from savings, if you are a homeowner or own other property, there may be another way.

You could increase your borrowing on a property to raise a deposit. If you are within the early repayment charge period of a mortgage, you could use a second charge mortgage to sit alongside your existing borrowing, to avoid paying exit costs.

If you own a property with no mortgage, you could borrow against it to raise a deposit.

Chat to our advisors about your options to see if these solutions are workable and affordable for you.

Mortgage rates

HMO mortgage rates tend to be higher than a standard buy to let, because the borrowing scenario is more complex and as such carries greater risk for the lender.

However, there are a huge range of products available and finding the best rate for your circumstances will depend on the property, your circumstances, your investment approach and plans and how that aligns with lender criteria.

Comparing HMO mortgage rates will give you a general feel for what is available, but understanding which deals you are eligible for is more complicated.

The easiest way to determine this is tospeak to a mortgage advisor, who can take all of your wants and needs and match you to the most appropriate product available, whilst also ensuring it is the most cost effective deal for you.

Incentives

Incentives that come with some buy to let deals (e.g. cashback at completion, free valuation, no product fee) are less common on HMO deals, but some lenders offer some of these options. When you discuss a deal with your mortgage advisor, tell them your priorities so they can present you with a deal that will suit you best.

Borrowing amount

The amount you can borrow on an HMO mortgage is dependent on the rental income the property will generate, just like any other buy to let mortgage. Each lender has their own affordability calculation to determine how much an applicant can borrow, this diversity in approach has widened significantly over time.

Affordability calculations require the rent to exceed the monthly mortgage cost, to make sure that if there are changes in the monthly mortgage cost, the borrower is still able to afford to pay them.

For example, if a lender has a generous affordability calculation, you will be able to get a bigger loan with them than a lender with a very strict affordability calculation.

Higher rate tax payers are subject to more conservative mortgage affordability calculations, this is because those with higher incomes tend to have income from a wider range of sources than basic rate taxpayers which present a higher level of risk.

As a specialist broker, Commercial Trust can help you navigate all these intricacies to get a suitable mortgage.

Experience required

HMO lenders usually require one year of experience as a buy to let landlord, some may want two years’ experience. It is also possible to find lenders who don’t require you to have landlord experience, but the options are more limited.

Product fees

The fees associated with HMO mortgages come under the same headings as any buy to let mortgage, you would normally pay a product fee, which might be a fixed amount or a percentage of the loan.

Some high street lenders may offer deals with no product fee, but this would be on smaller HMO properties that would require little to no work to convert the property back to a home in order to be sold to a single household.

Given that HMO mortgages are more specialist, they tend to attract higher lender fees than a standard buy to let mortgage.

Valuation fees

Again, because HMO’s are more specialist properties, the valuation work required can be more extensive and as a result valuation fees can be higher than on a standard buy to let property. However, some lenders offer free valuations with their products.

Broker fees

Broker fees cover the cost of the work the broker does to identify a suitable deal for you, and all the administrative work associated with getting the deal through to completion.

How many people can live in an HMO?

The number of people that can live in an HMO depends on the number of bedrooms the property has and the size of the bedrooms. It is vital a property does not become overcrowded, and there are laws in place to regulate this.

How big do the bedrooms need to be?

Where an HMO is licensed, by law, you cannot rent a room that does not meet minimum floor space criteria. The criteria is different for single and double occupancy and adults or children who are under 10 years old.

There are also HMO license laws controlling the number of people who can occupy an HMO bedroom.
Information on HMO bedrooms can be found on the government website.

How many bathrooms should an HMO have?

Licensed HMOs that don’t provide bathroom facilities for each tenant, are required to have a minimum number of bathrooms with specific facilities based on the number of occupants of the property.

The number of bathrooms required differs whether there are four or fewer occupants and five or more occupants. For larger HMOs greater provision is required, to include separate additional toilets with sinks. There are also stipulations for larger HMOs around the provision of a sink in the bedroom.

The overarching rules around bathrooms require that:

1. The main bathroom must have a bath or shower and a toilet
2. They must be heated and ventilated adequately
3. They must be of an adequate size
4. Baths, toilets and sinks must be fit for purpose and have a constant hot and cold water supply
5. They are located in a suitable position within the property

Click through to read UK government legislation relating to bathrooms in HMOs.

Tenancy types

There are two ways to set up tenancy agreements for tenants in an HMO.

For smaller HMOs, of up to 5 bedrooms, landlords could use one Assured Shorthold Tenancy agreement (AST) which all tenants sign up to.

Why set up an HMO with tenants on one AST? Some high street lenders offer lower rates than specialist HMO products, where properties are set up like this. This is because the property remains set up for either multi-tenant use or single household use. This means if the lender ever had to take possession of the property, as a result of unpaid mortgage payments, the property could easily be put on the market and sold as a regular home to reclaim losses.

For small or large HMOs, the alternative is to set up AST’s for each tenant, but bear in mind that this would automatically mean any mortgage you took out would be with specialist lenders only and not the cheaper rates offered by high street lenders. If your property has more than 5 bedrooms, then this will be the case regardless.

Advantages and disadvantages of an HMO

Advantages

High yields: HMO properties tends to be more profitable than standard buy to let because yields (return on investment over time) are higher. This is due to an HMO receiving a rental income per bedroom which when added together usually exceeds the amount you would get if you rented the whole property to one household:

For example, a four bedroom house with a living and dining room might attract a rent of £1300.

But, if each bedroom was rented out and the dining room was converted into a bedroom too, you might get £450 per room per month, a total of £2250.

Lower impact rental voids: Given HMO’s have multiple tenants at once, if one leaves and you can’t fill the room, you are still receiving rent from the others. This lessens the impact on your income than if you were renting the whole property to one household, who left and you struggled to re-tenant the property.

Demand: HMO properties are in demand by students, junior executives, overseas workers, and other contractors. They offer the possibility of moving in relatively quickly and easily, as they are usually furnished and you are only moving in a roomful of belongings, rather than a houseful. HMO’s are typically centrally located with access to everything a town or city has to offer, including employment, entertainment, shops and transport links.

Capital growth: Since HMOs are widely popular with both students and working professionals, they are usually located in prime areas, such as city centres, around colleges and universities, or locations that offer short bus routes into urban areas and have necessary everyday amenities nearby. HMOs are typically larger properties too. These factors in combination generally make for more favourable capital growth over time.

Disadvantages

Management and administration: HMOs are more complicated to administer and manage, because you are dealing with multiple tenants under one roof and because there are more laws and regulations involved.

Wear and tear: More people in a property typically results in a greater level of wear and tear, and if you are letting to highly sociable groups, house parties may from time to time create issues.

Financial risk: HMOs are typically larger properties, so the overall financial investment is greater and therefore carries more risk. Mortgage rates are more expensive, which means monthly costs are higher, but higher rents usually counteract this being an issue.

Tenant disputes: Due to the fact that HMOs have facilities that are shared between the tenants, disagreements may arise. Landlords might need to settle any disputes to stop any conflicts from emerging. Appointing a letting agent can help, as they are used to managing tenant issues.

Furnishing: Generally, HMOs are fully furnished properties, whilst standard buy to let properties are usually rented unfurnished. Thus, landlords must consider the additional expenses required to furnish HMO properties.

Getting an HMO licence

HMO licensing exists within the private rental sector to make sure that properties of this type are managed and maintained properly. Multi-household living within one building requires additional health and safety measures to keep all tenants safe that go beyond a single let property.

Mandatory licencing applies to all HMO’s with 5 or more tenants and 2 or more households.

Additional licensing and selective licensing are schemes that may be imposed by local councils to manage HMO’s in their region.

The council local to the property you are interested in (if purchasing) or that you own (if remortgaging), will have information on local rules around HMO licencing and will be who you apply to, if you need a licence.

You can use government websites to find which local council you need to speak to about HMO licences:

Licences in England and Wales

Licences in Scotland

Licences in Northern Ireland

HMO FAQ