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Property Investment Strategies; The Pros & Cons

Jan 30, 2021 | Property Investment

Property Investment Strategies; The Pros & Cons - Horizon Lets

At its simplest, there are only two property investment strategies:

  • Buy a property and rent it out
  • Buy a property then sell it on for a profit

But if it were that easy, there would be no need for this article. Indeed there are a much larger number of approaches – each suitable for differing types of people, approaching different types of goal.

When you put together a business plan for your property investments, you’ll need to think about which type of investment strategy best fits your objectives.

Property Investments

We look at each one – looking at what it is, and what the advantages and disadvantages are compared to other strategies you could pursue instead.

BUY TO LET

By buying a property to rent out, you aim to make money in two different ways:

  • The monthly rental income in excess of costs
  • The growth in the capital value of the property over time

There are lots of different varieties to look at, but they all share the basic model: regular income, with the hope of further gains over time.

PROFESSIONAL SINGLE LETS

You can think of this as “normal” or “traditional” buy-to-let renting out a property as a single unit to a working individual or family.

It has been around forever, and it is about as simple as it gets. All you need to do is get your sums right in the first place, buy in the right place, get a good tenant in, and make sure they are happily paying the rent.

That is an oversimplification, but at its heart that’s all there is to it. While you will hear a lot about other more advanced strategies, most property investors stick to normal buy-to-let – and there is a lot to be said for keeping it simple.

Pros:

  • Easy to understand and get started
  • Easy to get mortgages for, compared to other types of buy-to-let
  • Takes up little management time – or a letting agent is easy to find
  • Predictable returns, as long as you make an adequate allowance for costs

Cons:

  • Returns aren’t as high as some other types of buy-to-let

HOUSE OF MULTIPLE OCCUPATION (HMO)

An HMO is basically a “house share” – where a property is rented out room-by-room to unrelated individuals.

There are different definitions of what constitutes an HMO for different purposes, but the most common one is:

Renting out a property by the room tends to generate more revenue than letting it.

If you decide on an HMO you could take a three-bedroom house with two reception rooms, create a fourth bedroom, and rent out each room for £400 per month. As a single property, you might only get £1,000 – so the HMO makes £600 more in rent per month.

However, there are also higher costs: HMOs tend to be let furnished with bills included, plus there is likely to be more wear and tear. Management is more time-consuming too, which means either higher letting agent fees or more involvement from the landlord.

Even after the extra costs, HMOs generally offer a higher yield – and as a result, they have grown massively in popularity over the last five years. The knock-on effect is that councils are taking more action to regulate them: tightening up existing regulations, increasing the types of HMO that need to be licensed, and refusing permission for new HMOs to be set up in some areas.

Pros:

  • Higher yields than single lets
  • Diversified income streams: if one tenant stops paying, there’s still income from the others

Cons:

  • More intensive management required
  • More regulations to comply with
  • Harder to get a mortgage than for a single let

STUDENT PROPERTY

Student lets are really just a sub-type of HMOs – but are worth considering separately, because the student market has its own characteristics.

Generally, the management of a student property is more predictable because they sign up for a set amount of time, and you know exactly when they will be moving in and out. Also, they will usually be on one joint contract – so if one student leaves, the others will have to continue paying their share of the rent.

The challenge is that traditional student house-shares are coming under pressure from new purpose-built student accommodation. Increasingly, students attracted to high-spec city centre flats with lots of facilities – and in some areas, this has made traditional student houses hard to let.

Pros:

  • The increased revenue of HMOs, with less management overhead
  • A predictable student “cycle”

Cons:

  • Pressure from purpose-built accommodation in some areas

HOUSING BENEFIT TENANTS

The terminology around housing benefit is tricky: it is calculated using something called Local Housing Allowance (LHA), but in some areas it has been rolled into Universal Credit (UC), and many people still refer to it as DSS.

You will see all these terms mentioned, but all mean the same thing: renting to tenants who have their housing paid for by the local authority.

The upside of this tenant type is that the rent paid by the local authority is the same for all properties of certain sizes in the same area, so you know exactly how much you can charge – and due to how it is calculated, it can be higher than a private renter would pay for the same property.

The downside is that the tenants can be trickier to manage, and councils tend to pay the housing benefit to the tenant – who may or may not pass it to the landlord in some instances.

There are ways around many of the challenges, and it can be a high-yielding strategy – but it is best to only approach this idea with a willingness to put time and effort into finding the right tenants and building knowledge about the workings of the benefits system.

Pros:

  • High yielding
  • Predictable levels of rent
  • High tenant demand

Cons:

  • More specialist management required
  • Properties tend to be less desirable and benefit from less capital growth

HOLIDAY LETS

A holiday let is a property that is rented out short-term to holidaymakers. You will also hear about “serviced accommodation”, which is the same thing but aimed more at business travellers.

There is a lot of crossover in the two terms, and the model is the same: the only difference is the type of customer you target.

This type of short-term accommodation can be very profitable if you achieve a high level of occupancy. For example, for a seaside cottage it’ll be easy to fill up the summer months – but the real money is made if you manage to fill up the rest of the year, albeit at a lower nightly/weekly rate.

The downside is that the work is almost constant, with marketing and frequent changeovers of occupancy to deal with. It is also difficult to find a mortgage that will allow short-term lets – so with reduced leverage, return on Investment may be lower even with higher rental income.

Pros:

  • Very high yielding if occupancy is high
  • No possibility of having to evict, as tenure isn’t secure
  • Better tax treatment than for single lets

Cons:

  • Lots of work, with constant marketing and changeovers
  • Very difficult to find a mortgage that allows it

BUY TO SELL

Buying to sell, also known as “flipping”, couldn’t be more different from all varieties of buy-to-let. There’s no steady income or long-term growth: the aim is to make a profit by buying at one price and selling at another.

As such, you could think of it as “trading” rather than “investing”. The fact that the product is property is unimportant: the model is no different from fixing up and selling on cars, computer equipment or anything else.

The big attraction of flipping is that you can generate meaningful amounts of cash quickly: a successful project could make tens of thousands of pounds in a matter of months, rather than a buy-to-let property just making a couple of hundred pounds per month.

And the downside is the same thing: the property won’t continue to make money every month, so you’re only generating income when you’re completing projects: as soon as you stop working, the money dries up.

The two keys to a successful flip are buying the property at the right price and keeping the refurb costs within budget. It is not easy for an amateur to do but can be highly lucrative if you find the right former.

Really, whether buy-to-sell makes sense for you will depend on your goals.

Pros:

  • Ability to generate quick lump sums
  • No need to deal with tenants and maintenance
  • No need to worry about the long-term health of the property market

Cons:

  • No residual income: you only make money if you’re executing projects
  • Hands-on, complex work with lots of aspects to manage
  • Could be forced to sell at a loss if you get it wrong: can’t be bailed out by rising prices in the long term

COMMERCIAL PROPERTY

Some people are put off by the fact that while everyone needs somewhere to live, commercial property is more subject to the whims of the economy – and if you lose a tenant, it can take a long time to find a new one.

However, it undoubtedly requires less ongoing work: leases are for multiple years and tend to be “fully repairing and insuring”, so if you’ve got a tenant with a stable business there isn’t a lot to do.

There are also tax advantages, and commercial property can be owned by a pension – so it could well become more popular in the coming years.

Pros:

  • Tenancies tend to be longer-term
  • Tenants are responsible for maintenance
  • Can be held within pension
  • More generous tax treatment than residential

Cons:

  • Tends to be harder hit at times of recession than residential property
  • Voids can be longer
  • Mortgages are always on a repayment basis and may be lower loan-to-value

RENT-TO-RENT

As the name suggests, rent-to-rent involves renting a property from a landlord then renting it out to a tenant – with the profit being the margin between the two rents.

It is common for this to be used in conjunction with an HMO strategy. As a property rented room-by-room will usually generate more rent than a whole property – so it’s possible to rent a whole property, sub-let it by the room, and keep the difference between the two as profit.

Alternatively, it is possible to find landlords who are willing to rent properties at a discount in exchange for certainty of income and a lack of hassle. Rent-to-rent would then work by paying the landlord a reduced fixed level of rent for a number of years, then re-renting the property at the market rate.

Pros:

  • A way of generating income from property with limited cash input
  • Can get started quickly

Cons:

  • No long-term capital growth
  • Usually not enough margin to employ a managing agent, so hands-on
  • Hard to find landlords who want this kind of arrangement

LEASE OPTIONS

Lease options are like rent-to-rent, but the investor also has the “option” to buy the property for a fixed amount for a set amount of time.

For example, a property is worth £100,000 and an investor takes the option to buy it for £110,000 at any time in the next five years. In the meantime, they take over the owner’s obligations and expenses, and rent the property out.

It became more popular during the recession when properties were in negative equity. The owners were unable to sell for a high enough price to clear the mortgage balance, so may have been willing to agree a future price and wash their hands of the property in the meantime.

Now the market is stronger, there are fewer opportunities for lease options – but they are still popular in some areas.

Pros:

  • A way of generating cash, with the possibility of capital growth
  • Limited cash needed to get started

Cons:

  • The owner could attempt to back out of the deal, so the option can only be enforced by an expensive legal battle
  • Hard to find landlords who will agree to this arrangement
  • Usually not enough margin to employ a managing agent, so hands-on

OUR FINAL THOUGHTS

In conclusion, every investor you meet will have their own biases, but you should never let anyone tell you that there’s a single right or wrong way of property investing.

Every strategy has pros and cons, so the only right way is doing what is right for you – based on your priorities, goals, other commitments, and so on.

Therefore it will be entirely different what is right for one investor compared to another, based on their aspirations, their long term intentions and their requirements from their property investment. Indeed the correct property investment strategy for one investor could easily change over time due to change in circumstances, legislation, their intentions and as a result of new opportunities that arise.

This article is merely therefore to highlight the various strategies, we strongly recommend anyone getting into a new property investment strategy to do thorough due diligence, including speaking to professionals already in the industry.

If Horizon Lets can offer any help or advice, please feel to get in touch with out lettings agents any time. We will always be happy to talk property!

 

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