Pension crisis refugees back buy-to-let

Successive pension nightmares, unpredictable stock markets and stubbornly poor savings rates have persuaded millions of people to turn themselves into amateur landlords to fund their retirement.

Their appetite has been whetted by strong house price rises in the last five years and the cheapest loans for four decades.

Even though pessimists warn that the buy-to-let bubble is sure to burst, the industry reports healthy activity. According to figures from the Council of Mortgage Lenders, buy-to-let lending in the second half of 2002 leapt by 63 per cent to £6.7 billion.

Charles Reed, managing director of UCB Home Loans, the buy-to-let subsidiary of Nationwide, which recently produced a report on the sector, says: 'We have found there is an increasing interest from people looking at buy-to-let as part of their pension planning.'

Its findings are backed up by research by the Association of Residential Letting Agents (Arla), which suggests three-quarters of buyers are investing for the long term.

The sharp increase in prices has made it an expensive investment but has also helped provide landlords with a steady stream of tenants who once would have been first-time buyers, but now must rent for longer before taking out their own mortgage.

Other positive factors include the greater number of single people and their tendency to move around frequently early in their career.

But there are plenty of issues for would-be Rigsbys to consider before taking the plunge. They need to choose the right location, find a mortgage, decide who will manage the property and calculate the ongoing bills and tax implications.

Stamp duty, legal fees, insurance and furnishing and equipping a property are all expensive extras. The biggest regular cost is the managing agents fees, which can be as much as 15 of the rental income. And those who sell up at a profit may face a capital gains tax charge if it exceeds their annual allowance, currently £7,900.

Certain costs can be offset against income for tax purposes. Most landlords opt for a simple 10 per cent annual wear-and-tear reduction. The alternative is to offset capital expenditure when it arises.

Landlords should have a contingency fund of at least three months' mortgage repayments to cover any periods the property is empty - on average one month in every 18, according to Arla.

The right location is crucial. Arla provides names of agents in relevant areas to speak to about letting potential and realistic rents.

Reed warns: 'It's not a heads-you-win, tails-you-can't-lose investment. We have seen parts of London where landlords now outnumber tenants.'

The yields vary sharply across the UK from 5 per cent to 10 per cent. Areas that are doing well are Bristol, Northampton, Leeds Manchester, York, Newcastle and the suburbs of cities such as Birmingham and Nottingham, according to UCB.

Buy-to-let loan deals are improving. Simon Jones of London-based Savills Private Finance says: 'Six years ago only a few lenders offered investment mortgages and you would pay 2 per cent more than the normal rate. Now over 50 lenders offer deals at a rate between 0.5 and one per cent above.'

David Hollingworth of Bath-based mortgage advisers London & Country, says the rules differ. He says: 'Borrowers need deposits of between 15 and 25 per cent.'

Arla figures suggest that landlords are being sensible, borrowing on average just 54 per cent of the property value.

While some lenders consider only the predicted rental income in their sums, others want to know about other income as well. Jones says: 'Lenders will normally want the rental income to be around 130 per cent of the mortgage repayment.'

Those who get a taste for property owning need to check their lender's policy. UCB and others limit the number to two, while others will lend on up to 10 or more.

London & Country's recommendations include C&G's five-year fix at 4.89 per cent (25 per cent deposit) and Derbyshire building society's five-year fix at 4.95 per cent (20 per cent deposit).

Hollingworth says: 'People who have enough equity in their own home can consider increasing their own mortgage to buy their investment property outright. They should still be able to claim the tax relief on loan repayments but they must check with their accountant.'

Wealthier employees often use Fund Unapproved Retirement Benefit Schemes to reduce tax on their buy-to-let investment. Stephen Humphrys, partner at the financial services division of accountancy firm Moore Stephens, says: 'You have to use income or bonuses from employment to invest in a scheme but you can use that money to take out a loan to buy a property. There is no tax relief on the way in but the tax on the rental income is 22 per cent and any CGT is charged at 34 per cent. The downside is you can't take the income until retirement.'

· UCB Homeloans has a free guide on 0845 950 1500 (0845 950 1500) or at www.ucbhomeloans.co.uk. Phone Arla on 0845 345 5752 (0845 345 5752) or visit www.arla.co.uk.