HMO Market Set to Boom, but How are They Valued?

The House in Multiple Occupation (HMO) market is set to boom over the next year, according to Shawbrook Bank. However, many are confused about how these properties are valued.

Shawbrook Bank has found that over half (53%) of property investors are looking to either enter or expand in the HMO market.

As the need for HMO accommodation grows and investors realise the potential returns in this market, landlords are choosing to invest in HMOs rather than traditional buy-to-lets. Almost three quarters (72%) of investors name yields as the main reason for investing in a HMO, followed by capital growth, at 29%.

Shawbrook has identified the three main types of HMO investor:

• Accidental landlord – A homeowner that rents out a spare room, becoming an accidental HMO, as the property would have been originally purchased as a residence rather than an investment.
• Smash and bash crowd – Active investors seeking properties that would be suitable HMOs, after considering potential growth, often completely reconfiguring properties to house up to six or seven tenants.
• Regular buy-to-let – An investor that has bought a large house as a standard buy-to-let, but uses it as a HMO because the property is suitable.

HMO Market Set to Boom, but How are They Valued?

Traditionally, HMOs are low quality accommodation lived in by people on a low income. However, they are becoming a more mainstream housing option, as many renters struggle with rental costs.

Data from Shawbrook shows that over a third (34%) of investors consider HMOs their most preferred property type – up from 16% in July last year.

While demand from both tenants and landlords is up, few investors are aware of the challenges they face in the market. If HMO regulations are increased, investors could experience lower returns.

And one of the most common concerns surrounding HMOs is how a property is valued. There is little guidance in this area, with mortgage lenders approaching valuations and stress testing differently.

The Sales & Marketing Director of Commercial Mortgages at Shawbrook Bank, Karen Bennett, says: “As far as we are aware, no real valuation framework currently exists that provides the necessary clarity. This is causing problems for both lenders and investors, as the perceived value of the property affects how much equity the bank is prepared to release in order to aid them in future investments. Too much and the bank is at risk, too little and it limits the investor’s potential for expansion.

“A lack of guidance in this area means there is a risk that houses being approved will be questionable in their quality and this will further increase the risk to lenders.”¹

With no standard valuation framework in place, Shawbrook is trying to provide at least some guidance on the issue by engaging with valuers around the country and releasing some clearly defined categories. They are as follows:

• HMO1 – Small HMO, no Article 4 or planning exists, fabric of building remains largely unchanged, lending is against value as a private dwelling.
• HMO2 – No Article 4 or planning exists, but there is demand for this property as a HMO, the fabric of the building has changed, lending is against market value.
• HMO3 – Article 4 is in place, lending is against market value.
• HMO4 – Sui Generis planning is in place, lending is against market value.

The Deputy CEO and Managing Director of Commercial Mortgages at Shawbrook, Stephen Johnson, explains: “As the spotlight continues to shine on the HMO space, it is becoming increasingly important for investors to have a good grasp of these more technical concerns and an understanding of future risks.

“While there are certainly new challenges on the horizon, there are still a great number of opportunities in this market that has produced excellent yields for property investors in the past. Taking a responsible approach means that a sustainable future for the market can certainly be found.”

He adds: “This is a market that is constantly moving, and investors and lenders will need to learn, adapt and move with the times if they are to continue to take advantage of the opportunities presented by this attractive asset class.”¹

¹ http://www.mortgagesolutions.co.uk/specialist-lending/2016/04/25/69476/