Auction Finance for Buy to Let Landlords
Purchasing residential buy to let properties at auction is an attractive option for many landlords, but property auctions can be a daunting prospect for a first-timer. Consultant Broker, Paul Keddy, explains how these auctions work, the type of finance you’ll need and the benefits of purchasing property this way…
How do property auctions work?
Auction houses usually publish a catalogue of available properties or add the lots to their website before the auction date, so you can look at the properties available. Each property will have a lot number and a guide price, set by the auction house. While the guide price will give you an idea of what price the property may achieve, it is likely (and to be expected) that the property will achieve a higher sales price, depending on the level of interest in the property. As with any auction, the highest bidder wins the lot.
You may find that some sellers expect a certain amount for their sale, so will set a reserve price that the property cannot be sold below. If this price is not met, the highest bidder will not be able to buy the property.
On the day of the auction, most auction houses will expect a 10% deposit to secure your winning bid and then will allow 4-6 weeks to complete the purchase.
Why purchase buy to let property at auction?
Properties are sold at auction for many reasons, but can often be grouped into the following:
- Vendors looking for a quick sale
- Properties that are struggling to sell on the open market
- Properties that require development or renovation
- Repossessed properties
Because of this, a lot of properties that are sold at auction require renovation work to make them sellable on the open market or before you can move tenants in. This means that you can potentially buy a property at a price lower than the market value.
What are the risks of buying a property at auction?
While many properties may only require basic modernisation such as decorating, or fitting a new bathroom or kitchen, some do require considerably more substantial work to bring them up to a lettable or sellable standard. This can include sorting damp issues, re-wiring the electrics or even structural work.
The key to auction purchasing is to Do. Your. Research. While all of the above is possible to overcome if you have the right skill sets, connections and funds to complete the work, for a novice developer, you may not wish to take on substantial problems such as structural issues or damp. However, there are several steps that you can take to reduce these risks.
Before you attend the auction, you need to review the properties on offer and create a shortlist of those that you are interested in. Once you have your shortlist you need to do your research on each property, including reading the legal pack and viewing the property. You should undertake tasks that will incur costs, such as surveying costs and legal searches before purchasing, rather than finding yourself liable for a likely larger bill when something comes up as a surprise after you’ve purchased it.
How does auction finance work?
Auction finance is provided by bridging lenders, who are better equipped to complete within the 4-6 weeks that auction houses usually require. Bridging finance is a short-term loan with interest charged monthly, which you would repay either when the property is sold or moved onto a buy to let mortgage.
When you apply for a bridging loan, the lender will want to know your “exit” strategy at the point of application. So, it’s best to decide what your exit plan is ahead of time.
If you plan to keep the property as a buy to let investment, you will need a Decision in Principle (DIP) for a buy to let mortgage, before applying for your bridging loan. The DIP will be based on the predicted end value of the property after works have been carried out and will satisfy the bridging lender's requirement for an ‘exit’ plan.
We would expect bridging lenders to finance up to 75% of the agreed purchase price, however, this is usually a ‘gross figure’. Auction finance lenders often deduct the product arrangement fee and all the interest that would be charged over the term of the bridging loan, at the outset. After these deductions, you would normally be left with around 70% net finance towards the purchase. The benefit of this is that there are no interest costs to pay during renovation work on the property, or at the end.
Some lenders will consider allowing you to repay the interest costs during the bridge term. The benefit of this is that it frees up a higher amount of finance towards the initial purchase. However, lenders are reluctant to offer these types of loans due to the financial stress of making repayments while works are being carried out. Lenders may consider you if you are very experienced at refurbishing properties or are of high net worth. Lenders will assess each case individually and your broker will be able to help you put a case across if they think a lender will consider it.
When do I apply for auction finance?
First, you will need to approach a lender for an overview decision that is based purely on numbers: the deposit amount, current property value, expected property value, income etc. These are called ‘indicative terms’ and are subject to a full credit check which the lender will carry out once you have successfully bid for and put down the deposit on the property at auction. Assuming everything checks out and the lender is satisfied, credit backed terms can be issued within 24 hours.
I didn’t win the bid on the property I wanted, but I’ve bought another – what do I do?
If you’ve already secured indicative terms from a lender on a similar property, you will be able to discuss any changes that might need to be made with the lender. As long as the new purchase price and loan requirements are similar to those previously agreed, minor changes can be made and the lender can begin work on the credit backed terms to get the completion process moving.
In this instance, I would recommend that you let the lender know about the changes on the day of purchase, to ensure the auction house completion deadlines can be met.
If you have any questions about bridging finance and purchasing property at auction, please do not hesitate to get in contact with me, Paul Keddy on 01732 471655 or email me paulk@mortgagesforbusiness.co.uk and I will be happy to help.
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Updated May 2021.
5th May 2021
