HMO mortgages

What an HMO actually is

A house in multiple occupation is a property let to three or more people who form more than one household and who share a kitchen, bathroom or other facilities. That is the definition that matters, and two parts of it are worth dwelling on.

First, households rather than people. A couple counts as one household; so does a family. Three unrelated sharers are three households. Second, shared facilities. If each unit has its own kitchen and bathroom and its own front door, you are probably looking at self-contained flats rather than an HMO, which is a different lending conversation and a different planning one.

The point of getting this right at the start is that a property let as a shared house on a standard buy to let mortgage is almost certainly in breach of the mortgage conditions, and probably of the insurance too. Lenders do check.

Licensing: national and local schemes

There are two layers, and landlords regularly assume the first is all there is.

Mandatory licensing. This applies nationally to larger shared houses, on criteria set in legislation rather than by your council. Where it applies, a licence is required regardless of local policy, and letting without one is an offence with real consequences, including penalties and the risk of a rent repayment order.

Additional and selective licensing. These are run by individual councils. An additional scheme extends licensing to smaller shared houses in the council's area; a selective scheme can cover ordinary rented property in a designated area. They differ from borough to borough and they change, which is why no adviser and no website can tell you what applies to a particular address.

The council is the authority on which scheme applies. Ask the council about the specific property, in writing, before you commit. A lender will want the licence position established, and a case where the licence has not been applied for and the property is already let is a problem you inherit on completion.

Licence conditions themselves matter as well as the licence. They can specify the permitted number of occupants, minimum room sizes, amenity standards and management requirements, and they are the reason a house that physically fits more people cannot always be let to them.

The two valuation approaches

This is the part of HMO lending that changes outcomes more than anything else, and it is the part landlords understand last.

Bricks and mortar. The valuer reports what the house would fetch as an ordinary residential property on the open market, comparing it with similar houses nearby. The rental income barely features.

Investment basis. The valuer reports what the property is worth as an income-producing asset, based on the rent the rooms achieve and the yield an investor would expect. On a well-run shared house in a strong letting market, this figure is usually higher than the bricks and mortar figure, sometimes considerably.

The lender decides which basis it will use, and the decision is a matter of that lender's policy applied to your property. Some lenders always use bricks and mortar. Some will use an investment basis on a licensed property above a certain size, with a landlord who has a track record. Some instruct the valuer to report both figures and then lend against the lower one.

Because the loan is calculated from the valuation, the basis chosen can change the borrowing available on the same house dramatically. It also changes your refinance later, and it changes what happens to your equity when you come to sell.

The number nobody sees coming

The valuation basis decides the deal, and landlords find out after the survey. By then the price is agreed, the works are planned and the only variable left is how much of your own money goes in.

So we establish, before an application is made, which basis a given lender is likely to apply to your specific property. That is a conversation with the lender's underwriters rather than a guess from a criteria guide, and it is the single most useful thing we do on an HMO case.

Article 4 directions and use class

Planning sits alongside licensing and is a separate question. A dwelling house and a small shared house are ordinarily in different planning use classes, and in much of the country the change between them can be made without a planning application under permitted development rights.

Many councils have removed that right in specific areas by making an Article 4 direction, usually where they consider there are already a lot of shared houses. Where a direction is in force, converting a family house into a shared house requires planning permission, and permission is not always given.

Larger shared houses fall outside permitted development in any event and need planning consent on their own account. And a change of use carried out without the necessary consent leaves you with a property that may be unmortgageable, unlettable and exposed to enforcement.

Check the Article 4 position with the council for the exact address before you buy. It is the most common avoidable mistake we see on conversion projects, and it is discovered too late far more often than it should be.

Fire safety and building control

A shared house has to be safe as well as licensed, and the standards go well beyond those for a single family let. Expect to deal with all of the following, and expect a lender's valuer to look for them.

• An interlinked fire alarm system covering the whole property, not battery detectors
• Fire doors with the correct closers and seals, and a protected escape route
• Emergency lighting where the layout requires it
• A fire risk assessment for the property, kept up to date
• Electrical installation and appliance testing, and gas safety certification
• Building control sign-off for structural work, layout changes and new bathrooms or kitchens
• Room sizes and amenity provision that meet the licence conditions

Where works are needed to reach that standard, a term mortgage may not be available until they are done. That is a common route into a short term facility followed by a refinance once the property is compliant and let.

Landlord experience

Lenders take a firmer line on experience here than on ordinary buy to let. Managing a shared house is a more active undertaking: more tenants, more turnover, more compliance and more that can go wrong.

A landlord with existing rental property, and particularly with an existing shared house, has the widest choice. A first-time HMO landlord with ordinary buy to let experience is fundable by a narrower group. Somebody with no letting experience at all buying a large shared house as a first purchase is the hardest case, and where an investment-basis valuation is being hoped for, experience is often precisely what unlocks it.

Using a managing agent with genuine HMO experience helps, and lenders will ask who is managing the property. If you intend to self-manage, be ready to explain how.

When the lending is regulated

Most buy to let, including most HMO lending, is not regulated by the Financial Conduct Authority. There are two exceptions and they are frequently muddled.

The first is a family let. If the property is let to a close family member, the loan is a regulated mortgage contract and the full mortgage conduct rules apply, as they would to a mortgage on your own home. Only some lenders will consider it.

The second is consumer buy to let, which is a separate and lighter regime. It catches borrowers who did not enter into the arrangement wholly or predominantly for business purposes — classically someone who inherited a property or is letting out a former home, rather than someone who set out to invest. It brings its own protections and its own process, and it is not the same thing as a regulated mortgage contract.

Your property may be repossessed if you do not keep up repayments on your mortgage.

Which category your case falls into determines which lenders can help and how the application is conducted, so we establish it at the outset rather than at underwriting.

How we handle an HMO case

Specialist enquiries reach Nik Mair, our managing director, on the working day they arrive, and we place these cases direct with lenders rather than through a packager.

• We establish the licence position for the specific address, and tell you to confirm it with the council in writing
• We check the Article 4 and use class position before a conversion is planned rather than after
• We find out which valuation basis a lender is likely to apply to your property before an application exists
• We present your experience accurately, and where it is thin we look at lenders that will still engage
• We identify the compliance works that will hold up a term mortgage, and structure the funding around them
• We confirm whether the loan is regulated, unregulated or consumer buy to let, and set out our fee in writing beforehand

What we charge

Our fee is typically £495, though complexity moves it, and it is always disclosed in writing before you apply. Each stage of the fee is earned when that stage is reached and is not refundable after that point. Separately, you have the right to cancel within 14 days, as set out in our Terms of Business. We are usually also paid a procuration fee by the lender.