Blog Post

Finding a good investment

Jun 1, 2009, 10:27 AM by David Boyd

David Boyd, Managing Director, PAD4U Letting Agents Manchester writes:

Rather than beginning a discourse on property investment, I thought it would be useful to look at a recent investment I've made and examine how I came to decide this was a good investment to choose.

So how did I find the investment?

Well I hate to disappoint but it wasn't through some esoteric method of searching auctions or through investment clubs or anything of the sort. I simply searched Rightmove as I do from time to time looking at property prices in areas where we manage property already. A property caught my eye and I called the local agent to view the property. Simple as that. Local estate agents are an excellent source to find suitable property without the emotion of an auction room.

The Property

The property is a 2 bed terrace property in Gorton, Manchester. Terraced properties have held up well during the downturn as they are versitile and have a wide target audience. Gorton is a familiar area as we manage many properties here (this is an important point, by choosing a well known area I take the guess work out of investment).

The property itself was owned by a Housing Association. The property will require a complete refurbishment, but this is preferable as it provides a blank slate and I don't need to spend money on something I'm going to rip out anyway. Here I use the services of PAD4U's building arm to find out a ball park figure for refurbishing such a property. The cost will vary from 15K-25K depending on the quality required for the area. Here I will aim for the lower end refurbishment as I feel this will be suitable for the area and still bring the property to a standard above that of the majority of properties in the area.

Doing the math!

Because I've chosen an area we manage all the time, I don't have to look too far to work out expected rental value.  In fact, we manage a property on the same street and many streets nearby.  I discuss the investment with Alaine our Estates Manager and come up with a rental range of £400-450 pcm.  Alaine cautions that Gorton's rental values are a little weak in the current market and I thus set my rental target at £400 pcm.

On the basis of the rental value and the cost of the refurbishment, I put an offer on the property of £50,000 which is accepted.  Adding the refurbishment £50,000 + £15,000 will leave me with a total asset cost of £65,000 with an expected rental value of £400 pcm.

So what will £65,000 cost me per month?  Here I turn to our mortgage brokers the Fresh Partnership to see what deals are available.  This free service saves invaluable time as it is difficult finding buy-to-let mortgages at the moment.  Within minutes I get a list of options and I decide the best one is a rate of 6.25% fixed for 5 years, with a LTV of 75%.

Many investors make the fundamental error of only calculating the costs of the money lent by the bank and do not include the 25% deposit they must put down.  This doesn't make sense as money (wherever it comes from) costs money once employed.  Think about the interest I would make if I left my deposit in the bank, or in bonds?  Thus, we calculate the for the full property outlay:

£65,000 * o.0625 /12 = £338.54 pcm.

Doesn't look a bad deal so far?  But we must take account of additional costs:

Firstly one oft overlooked.  Voids.  We should calculate a minimum of half a month void per year.  This would cost (400/2) /12 = £17 pcm.

Then the management fees (I pay 10% + VAT to PAD4U as I have 5+ properties) = (400*0.10)*1.15 = £46.

We should also add a minimum of £20 pcm for maintenance issues.  (This figure is low since I will be refurbishing the entire property).

We should also allow around £15 pcm for building insurance.

Adding all this to the cost of the mortgage = £338.54 + £98 = £436!

Not such a good deal now?

I haven't added one off costs such as licensing and finding my first tenant nor solicitors fees.

Conclusion

Property investment isn't easy and there is always risk involved.  Doing the maths above may suggest that I would be mad to invest in this property.  But property investment isn't all mathematics and I must take into account my expectations of the future, such as:

  • rents are weak currently, I expect some recovery in the near future upto £450 pcm.  Medium term I see increased rental values as inflation returns due to various Government policies.
  • capital values have dropped significantly and I would expect a recovery in 5 years of around 20% which is equal to £216 pcm.  I thus expect a reasonable return on investment in time.
  • on the deposit I'm being quite robust here because although there is a cost of using the money you wouldn't get 6.25% return on cash or any risk free investment.

It is with the above assertions that I believe the property offers a good investment opportunity. However, there is always risk to every investment and what could be seen as a good investment could easily be viewed as a bad one.  The difference if the what assertions we put in place for the future.

What the reader may have also notice is that I rely on PAD4U for information on the market, to carry out renovations and to assist in finding the best mortgage.  These services are all free to me as they are to every PAD4U landlord.  By concentrating on the investment itself and getting information and assistance from professionals where appropraite, I make the investment process as painless as possible, allowing me to maximise my time on making investment decisions.

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