Post-Brexit: properties run as Houses in Multiple Occupation (HMO) are earning double-digit returns for London landlords - if they can navigate the rules

London’s property market is widely expected to stutter as a result of the country’s decision to leave the EU. While this could be an uncomfortable time for property owners, it may offer exciting opportunities — be that for buying a larger home, or perhaps to enter London’s lucrative House in Multiple Occupation market.

A House in Multiple Occupation — or HMO — is basically a property where three or more unrelated individuals/households pay for their own rooms while sharing communal amenities such as a bathroom or cooking facilities. They are particularly popular with those who would struggle to rent a flat on their own, such as young professionals, students and those in receipt of benefits.

Returns in double figures

Many landlords are able to generate impressive double-digit returns by renting out rooms separately in an HMO.

One, who I shall call “Jinny”, recently bought a large four- bedroom house in Ilford which she converted to create a six-bedroom HMO. All the rooms were let to professionals within a week for rents of between £450-£700 with bills included. Jinny thinks her return is currently about 15 per cent.

This is very different to London’s buy-to-let market, where double-digit returns are confined to the storybooks. I am doing well to get a five per cent gross yield on my latest rental. The problem is that while nationally high, London’s rents have failed to keep pace with the capital’s property prices. And once you’ve paid service charges, maintenance costs, agent fees and covered the costs of any empty periods, you may find you have little left for your efforts.

Come next April, the changes to the tax treatment on buy-to-let mortgage interest payments will make the environment even more challenging.

The HMO market doesn’t tie up as much capital as the buy-to-let market. For serial investors, a key strategy for maximising your return is to use mortgage financing to pull out as much capital from each property as possible and reinvest it into another rental property.

But for both buy-to-let and HMO mortgages, the amount of equity you can pull out depends on the rental income. In my experience, London’s relatively low buy-to-let rental yield makes it difficult to release more than 50 per cent of the property’s value.

An HMO, however, with its higher rental return, can let you release 70 to 80 per cent. This makes it a much more efficient use of your hard-earned cash — though you typically will pay a higher interest rate and arrangement fees.

Play by the rules

Before leaping on to the HMO profit bandwagon, careful research is required. HMOs have provided some of the UK’s poorest-quality housing in the past. To combat this, strict regulations have been introduced about occupancy numbers, room size, fire escapes and the number of communal amenities.

For bigger HMOs, or those in areas where concerns about housing quality remain, landlords may also require a licence to operate. These need to be obtained from the local council, usually incur a cost and last for a maximum of five years. Getting it wrong can mean a £20,000 fine and other sanctions, such as a 12-month rent repayment order.

It’s wise to work through the HMO requirements methodically and in liaison with your local HMO authority, use an experienced builder to convert your property, and ensure you have sufficient funds for all requirements.

Apart from council regulations, the property may also have stipulations that prohibit an HMO set-up. For example, the lease on one of my properties only allows me to sublet it to one family unit and not multiple households. You need to know this before you invest.

A final consideration is managing the property. With an HMO, you are renting out individual rooms which can be a lot more time-consuming than renting the whole flat in one go. As there is also a high probability that the sharers are strangers, you may find yourself dealing with anything from a love triangle to a selfish late-night party animal.

You can always hire a letting agent but as HMO dwellers can be a more transient part of the rental market, be prepared to pay out a lot more in fees. So, HMOs are not for the faint-hearted. They are more hassle, and have higher running costs as a result of increased management and maintenance work. But if you do your research and pick wisely, maybe you could make a healthy return on your investment.