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I’m a landlord – do I need an HMO mortgage?

Updated 03 September 2020

5min read

Nick Green
Financial Journalist

HMO mortgages for landlords

A House in Multiple Occupation (HMO) is a property let out to more than three tenants who aren’t from one family, where the tenants occupy private bedrooms but share some rooms, e.g. the kitchen, bathroom and lounge. When people use the term ‘flat share’ or ‘house share’, they are talking about an HMO.

As a landlord, you can generally make a greater profit from an HMO than you can by letting to a family. You’ll be able to charge individually per room, and thereby charge more overall. However, to do this you’ll need a specialist mortgage.

How are HMOs different from other rental properties?

HMOs are typically rented by students and young professionals, who may not be able to afford to rent a whole property by themselves, and are not yet settled enough to move in with a partner. While it’s cheaper for a tenant to rent one room than an entire property, the combined rent of all the rooms is usually greater than could be charged to a single family. A landlord can therefore achieve a higher rental income from an HMO.

Naturally, these higher potential rewards come with higher risks. You’re more likely to have a higher turnover of tenants than with a traditional buy-to-let, and every extra tenant is another unknown factor (e.g. will they pay the rent? Will they cause damage? Will they trigger disputes?). You’ll also need a specialist mortgage.

What mortgage do I need for a House in Multiple Occupation (HMO)?

An HMO mortgage is a type of mortgage specifically for landlords who want to rent out their property to more than three tenants who aren’t from one household. These specialist buy-to-let mortgages have some key differences, such as:

  • HMO mortgages are usually linked to rates like LIBOR rather than the Bank of England base rate
  • Landlords have to prove their experience before taking one out
  • Maximum LTV ratios are typically between 60-75%
  • HMO mortgages tend to be more expensive, both in terms of interest and fees

The greater cost of an HMO mortgage may erode your profit margins to an extent. Therefore you should work out in advance what those margins are likely to be, and judge whether the extra cost of an HMO mortgage is worth it.

Lenders of HMO mortgages will also have requirements about the property itself. For instance, some specify that the property can have only one kitchen, or that there needs to be communal seating for tenants, and some set a maximum number of storeys and/or bedrooms. If you want to renovate the property before you let it out, you’ll need to find a lender who agrees to this too. A mortgage broker can help you navigate all these various restrictions and conditions to help you find a willing lender. 

Who can get an HMO mortgage?

Many HMO mortgages are restricted to experienced landlords, in that some lenders will only accept applications from people who have been landlords for two years or more, and/or have experience in HMO letting. Lenders may have additional requirements beyond these. So if you’re a first-time landlord you will struggle to get an HMO mortgage approved, and will probably need to start by letting a property to a single household.

Once you’ve chalked up some experience of letting out property, you may be ready to graduate to letting out HMOs. You could convert an existing property to an HMO or buy a new one – but either way, you will need a specialist HMO mortgage. So if you already have a property on an ordinary buy-to-let mortgage, you will need to approach your lender again and see about remortgaging to an HMO deal.

You will also need a sizeable deposit for an HMO mortgage. Most lenders require LTV ratios of 60% to 75% or less (i.e. at least 25% deposit). Although lenders will take potential rental income into account during their stress test calculations, they’ll usually base their sums on the rental income you’d get from letting the property out to one household rather than individuals. This means that the mortgage will have to be comfortably affordable from your point of view, with sizeable margins. A mortgage broker can advise you on how big an HMO mortgage you can afford (in your lender’s eyes).

What is an HMO mortgage stress test?

A mortgage stress test is a calculation that your lender carries out to decide how much income you’ll need to cover the mortgage repayments.

There are two main sums in the stress test. The first works out the annual interest, and the other calculates the rental income you’ll need to cover the cost.

Annual interest

Lenders use something called an Interest Cover Ratio to work out how much interest you’ll be paying annually. Typically ranging between 3.5% and 5.5%, they simply multiply it by the loan amount to produce their estimate. For example, if you’re taking out a loan of £100,000 and the Interest Cover Ratio is 5.5%, the annual interest you need to afford is £5,500:

£100,000 X 5.5% = £5,500

Bear in mind that you won’t necessarily be paying this amount in interest (as this depends on your actual interest rate). Rather, this calculation allows for the possibility that interest rates may rise, and wants to make sure you can still afford repayments in those circumstances.

Rental income

Lenders use another hypothetical figure – the Rental Cover Rate – to work out how well your rental income will cover your mortgage repayments. Typically they look for a Rental Cover Rate that is between 125% and 145% of the annual interest rate. Effectively what they are asking here is, ‘Could you still afford repayments even if the interest were higher by up to 145%?’

To answer this, the lender multiplies the Rental Cover Rate by the annual interest rate. Here’s how this would apply to the previous example, where the annual interest is £5,500.

Assuming the Rental Cover Rate is 145%, then the calculation is:

£5,500 X 145% = £7,975

So the annual rent you would need from the property is £7,975. Again, you may not need as much in practice – but the lender must have sufficient assurance that you can generate this much in rent.

Other factors in HMO mortgage affordability

In addition to the stress test, the lender will use other criteria to determine your ability to afford an HMO mortgage. They’ll want to know about other sources of income, your credit score and any other rental properties you have. The size of the HMO can also affect which deals you’re offered, and what size / type of properties will be covered by these loans.

How to get the best rates on an HMO mortgage

HMO mortgages are generally more expensive than typical buy-to-let loans, as well as being harder to secure. This makes it particularly important to get a good rate, because the amount you’re paying in interest will directly affect your income.

Going through an independent mortgage broker will give you access to a wider range of lenders, including smaller lenders with tailored products. Your mortgage broker will also be able to help you through the comparison and application processes.

Find out more about being a landlord with our buy-to-let guide.

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About the author
Nick Green is a financial journalist writing for Unbiased.co.uk, the site that has helped over 10 million people find financial, business and legal advice. Nick has been writing professionally on money and business topics for over 15 years, and has previously written for leading accountancy firms PKF and BDO.