This comprehensive guide will take you through everything you need to know about investing in Houses of Multiple Occupancy (HMOs) in the North East. We’ll explain what HMOs are, who typically lives in them, why they are attractive to tenants, and, most importantly, why they present a valuable investment opportunity for you.
Gone are the days of substandard 'bedsit-style' accommodation. Today’s HMOs offer modern, comfortable shared living spaces that appeal to a wide range of tenants and provide excellent returns for investors. Understanding the dynamics of HMOs and how to manage them effectively is crucial for success.
Table of Contents
Your Guide to HMO Investing
The North East is characterised by its blend of historical significance and contemporary growth. Cities like Newcastle, Sunderland, and Durham are not only cultural and educational hubs but also burgeoning centres for business and innovation. The region’s affordable property prices, compared to the national average, make it an attractive option for investors. Additionally, the North East’s growing student population and influx of young professionals seeking affordable living options contribute to the high demand for HMOs. Read on to find out more in our guide to HMO investing.
What is an HMO?
A House in Multiple Occupation (HMO) is essentially a shared house where multiple people live together, sharing common areas such as kitchens and bathrooms, but do not form a single family unit.
The definition of an HMO can vary slightly depending on the source:
The Government Definition of an HMO is any residential property occupied by three or more tenants forming two or more households who share essential amenities like a kitchen or bathroom. This broad definition even includes scenarios where a couple rents out a spare room to an unrelated third person.
However, in the context of HMO investing, we are typically referring to properties where the owner does not reside in the house and instead rents out individual bedrooms to unrelated tenants. These properties are designed to accommodate multiple tenants comfortably while providing shared facilities.
Understanding these distinctions is crucial for compliance with local regulations and for maximising the investment potential of HMOs.
HMO Licensing Explained
An HMO becomes licensable when five or more tenants are living in the property. HMO licensing ensures that the property meets stringent safety standards and undergoes regular inspections. The landlord must obtain a licence from the local authority to operate an HMO legally.
Local authorities may also implement additional licensing schemes, which include:
Additional Licensing: This applies to all HMOs within a designated area, not just those with five or more occupants. It extends the mandatory HMO licensing requirements to smaller HMOs to ensure safety and quality standards.
Selective Licensing: This can apply to any rental property within a specific area, such as all privately rented houses or flats in a particular postcode. The goal is to regulate and improve the management and condition of rental properties in the designated area.
Although these licensing schemes might seem complex, a quick search on your local authority's website can provide all the necessary information regarding the licensing requirements for your rental property.
It's essential to note that all HMOs in England with five or more occupants require a mandatory HMO licence. Additionally, many local authorities have introduced Additional Licensing for smaller HMOs to ensure a consistent standard of living for tenants across all types of shared housing.
Planning Requirements for HMOs
As you explore HMO investing, it's important to understand the different planning use classes that apply to HMOs based on their size.
A typical residential dwelling occupied by a single family falls under the C3 use class. However, all HMOs will need to go through a change of use process before they can be rented out, either through a full planning application or under permitted development rights.
Small HMOs (up to 6 occupants): These fall under the C4 planning use class. Properties in this class can usually be changed from a C3 property under permitted development rights, unless there is an Article 4 directive in place which restricts these rights. Article 4 directives remove permitted development rights in specific areas, requiring a full planning application for changes of use.
Large HMOs (more than 6 occupants): These fall under the 'Sui Generis' planning use class. Sui Generis, meaning 'of its own kind,' applies to properties that don't fit into other predefined categories. Larger HMOs require a full planning application for change of use and cannot benefit from permitted development rights.
To summarise the classifications:
3 or more occupants forming 2 or more households: Classified as an HMO. May require a licence if local authorities have additional licensing schemes. Falls under C4 use class, usually changeable from C3 under permitted development, unless restricted by Article 4.
5 or 6 occupants: Still under C4 use class but requires a mandatory HMO licence.
7 or more occupants: Falls under Sui Generis use class, necessitating a full planning application for change of use and a mandatory HMO licence.
Understanding these classifications helps ensure compliance with local planning regulations and prepares you for the necessary steps to convert properties into profitable HMOs.
Clarice Carr & Co's HMO Classifications
At Clarice Carr & Co, we categorise HMOs based on both legislative brackets and our extensive experience with various property sizes and tenant demographics.
Small HMOs: These properties accommodate 3 or 4 occupants. They are ideal for more remote locations or for tenants who prefer a quieter living environment. These are also a great starting point for investors with limited capital.
Standard HMOs: These are typically 5 and 6 bedroom houses that require mandatory HMO licensing and fall under the C4 use class. They are well-suited for larger groups of friends or professional sharers looking for a bit more space and community living.
Large HMOs: Our large HMOs house seven or more occupants and fall under the Sui Generis use class. These properties are often located in town centres or near universities, making them perfect for larger groups and maximising rental income from prime locations.
Who Typically Chooses an HMO?
The types of tenants attracted to living in an HMO can vary depending on the location, but generally, HMOs appeal to several key demographics:
Students: Many students prefer HMOs because they are more affordable than renting a studio or one-bedroom apartment while studying. HMOs also provide a sociable living environment, which is often seen as an essential part of the student experience. Despite some misconceptions about student tenants, they remain one of the most popular demographics for HMO investments due to their consistent demand for housing.
Young Professionals: For many young professionals in their twenties and early thirties, HMOs offer a cost-effective solution compared to renting a flat or house on their own. HMOs provide the opportunity to live in central locations close to work and social amenities. Additionally, the communal living aspect helps them meet new people and build a network in a new city, particularly if they are used to shared living from their university days.
Low-Income Individuals and Vulnerable Groups: Some people may not have the financial resources to rent a property independently or are unable to live alone. This group includes individuals with low incomes, asylum seekers, refugees, and others in vulnerable situations. For these tenants, HMOs offer an affordable and supportive living arrangement, often with included bills and communal facilities that reduce the overall cost of living.
While these are broad categories, it's important to note that every HMO and tenant situation is unique. Understanding these demographics helps investors cater to their tenants' needs and preferences, making their properties more attractive and ensuring higher occupancy rates.
Why Are HMOs Appealing to Tenants?
When discussing HMOs with those unfamiliar with this type of living arrangement, a common misconception is that people only choose to live in HMOs because they have no other options. However, our extensive experience in the property market has shown that there are numerous reasons why tenants, especially students and young professionals, prefer HMOs.
Affordability
One of the primary attractions of HMOs is affordability. Renting a room in a shared house is almost always cheaper than renting an entire property, even a one-bedroom flat. Most HMOs include bills such as council tax, utilities, WiFi, and even regular cleaning of communal areas in the rent, making it an all-inclusive package that's hard to beat financially.
Convenience
The convenience offered by HMOs is another significant draw. For students, HMOs located close to universities provide easy access to lectures and seminars, reducing the need for long commutes. For young professionals, living in an HMO often means being closer to city centres and workplaces, which saves time and money on commuting and places them in the heart of social and professional activities.
Flexibility
HMOs also offer a high degree of flexibility. For students and young professionals who might not be sure how long they will stay in a particular area, renting a room in an HMO is ideal. They aren't tied down to long-term contracts with utility providers or the need to furnish an entire home. This flexibility allows tenants to move in with minimal hassle, often just with a suitcase, and move out just as easily when their circumstances change.
Sociability
The social aspect of HMO living is a considerable benefit for many tenants. In university towns, HMOs provide the opportunity to live with a diverse group of people from various backgrounds and study courses, helping to create a supportive social network. For young professionals, HMOs offer the chance to meet new people, make friends, and network with like-minded individuals. While not everyone will become best friends with their housemates, the opportunity for social interaction is a positive alternative to living alone.
Increased Demand Across Demographics
While not everyone prefers the communal living style of an HMO, the demand for such properties is on the rise. This is true even for older demographics who appreciate the affordability, convenience, and social benefits that HMOs offer. At Clarice Carr & Co, we also cater to tenants seeking a quieter, smaller-scale HMO experience, providing options for a variety of preferences and needs.
Overall, HMOs offer a blend of affordability, convenience, flexibility, and sociability that appeals to a wide range of tenants, making them an attractive choice in the rental market.
Why is HMO Investing Appealing to Property Investors?
From an investor’s perspective, HMOs offer several advantages:
Higher Rental Yields: Renting out properties on a room-by-room basis can generate higher overall rental income compared to traditional buy-to-let properties.
Steady Demand: With a constant influx of students and young professionals, there is a steady demand for affordable, flexible housing solutions.
Recession-Proof: HMOs tend to perform well during economic downturns, as they offer affordable living options during times of financial uncertainty.
Increasing Financing Options: The availability of HMO-specific mortgages and financing options has increased, making HMO investments more accessible and financially viable.
What Makes the North East Unique for HMO Investing?
The North East of England stands out as a prime region for HMO investing due to several compelling factors. This area combines rich historical significance with contemporary growth, making it an attractive choice for property investors. Here’s why:
Affordable Property Prices
One of the most significant advantages of the North East is its relatively low property prices compared to the national average. This affordability allows investors to enter the market with a lower initial capital outlay, potentially leading to higher returns on investment.
High Demand from Students
The North East is home to several well-regarded universities, including Newcastle University, Durham University, and the University of Sunderland. These institutions attract a large student population, many of whom prefer HMO living due to its affordability and social benefits. The continuous influx of students ensures a steady demand for rental properties, particularly HMOs.
Growing Young Professional Population
Cities like Newcastle, Sunderland, and Durham are not only educational hubs but also burgeoning centres for business and innovation. The North East is experiencing a growth in young professionals seeking affordable living options close to work and social amenities. HMOs cater perfectly to this demographic, offering cost-effective and flexible living arrangements.
Strong Rental Yields
Due to the combination of lower property prices and high rental demand, the North East offers some of the strongest rental yields in the UK. Investors can achieve higher monthly returns compared to other regions, enhancing the attractiveness of HMO investments in this area.
Cultural and Economic Revitalisation
The North East has been undergoing significant cultural and economic revitalisation. Investment in infrastructure, regeneration projects, and an increasing number of business startups contribute to the region’s vibrancy and appeal. These developments create more opportunities for employment and attract a diverse population, further boosting the demand for rental housing.
Strategic Location
The North East’s strategic location provides excellent transport links, including major roadways, rail connections, and proximity to international airports. This connectivity makes it convenient for students, professionals, and other tenants to travel easily within the region and beyond.
Supportive Local Authorities
Local authorities in the North East are generally supportive of HMO investments, recognising their importance in providing affordable housing. While licensing and regulations must be adhered to, the overall environment is conducive to property investment.
By leveraging these unique attributes, investors can capitalise on the North East’s potential for high rental yields and robust demand, making it an excellent region for HMO investing.
HMO Profitability
HMOs can be highly profitable, often delivering returns that significantly exceed those from traditional buy-to-let properties. This is primarily because rent is charged on a per-room basis rather than for the entire property. Even after covering the costs typically included in an 'all-inclusive' HMO rent, such as council tax, utility bills, and WiFi, the profits from HMOs tend to be higher than those from single-let properties.
While it’s essential to consider various factors and not to focus solely on HMOs as the best investment option, their potential profitability makes them a compelling choice for many investors.
Comparative Investment Performance
Gold (2008-2023): Investments in gold have risen by 90% since 2008, considerably more than average UK property prices. However, gold does not provide regular income.
FTSE 100 (2008-2023): The FTSE 100 has seen a much smaller increase in value, around 25% over the same period. Despite the lower increase, it offers some regular income via dividend payments.
Average UK House Prices (2008-2023): The average house price in the UK has increased by 70% during this period. Although this increase is lower than gold, property investment benefits from ongoing rental income alongside capital appreciation.
Instead of asking if HMOs are the most profitable investment option, consider whether HMO investing is profitable enough, considering any associated risks, to make it a viable option for your next property purchase.
Average Monthly Profits
The average monthly profit from an HMO room is around £300, though this can vary significantly based on the property's size, the number of rooms, the investment location, and the tenant demographic.
This figure is pre-tax, but after accounting for all running costs, even a single 4-bedroom HMO can still generate a substantial annual income.
Larger properties often benefit from economies of scale. It’s not uncommon for our HMOs with 8 or more bedrooms to regularly generate over £2,000 per month in profit, with some even exceeding £2,500 from a single property. This can amount to roughly the average UK salary from just one investment!
To put this in perspective, the average monthly profit from a single-let buy-to-let property is typically around £350 to £450. As you can see, HMOs offer a significant financial advantage, making them an attractive option for property investors.
Return on Investment from HMO Investing
Determining the minimum return on investment (ROI) for HMO investing is a personal decision, influenced by your financial goals and risk tolerance.
In this context, ROI refers to the return on your cash left in the deal following renovation and refinancing. It is calculated as your pre-tax profit divided by your remaining deposit balance. This metric is within your control – aiming for a lower ROI will likely yield more potential deals that meet your criteria, while targeting a higher ROI may limit your options and extend the time needed to find suitable investments.
Suggested Minimum ROI
Income-Focused Investors: We typically recommend a minimum target ROI of 15% if your primary focus is the income generated by the property. This level provides a robust return while balancing the risks and efforts involved.
Capital Appreciation Areas: In areas with a higher likelihood of capital appreciation, you might consider a lower ROI of 12%. This adjustment accounts for the potential increase in property value over time, adding to the overall profitability of your investment.
Higher ROI Potential
While HMOs can generate significantly higher returns, it’s important to set realistic expectations. Our own minimum target for any HMO deal is 20%, meaning that if we have £50,000 left in after refinancing, it should generate at least £10,000 in pre-tax annual profit. Most of our HMOs achieve an ROI in the range of 40-50%.
The All-Money-Out Deal
In the HMO investment world, the ‘all-money-out’ deal – where you refinance and recover all your initial investment, or even more – is often considered the ultimate goal. While these unicorn deals do exist, they are rare and should not be the sole focus of your investment strategy.
Instead, aim for solid, good enough deals that provide reliable returns and build a sustainable portfolio over time. Chasing overnight success or get-rich-quick schemes is not a viable strategy in the HMO market. Steady, well-analysed investments are the key to long-term success.
The recession-resistant characteristics of HMOs, combined with their ability to generate healthy returns, make them an excellent investment choice for property investors looking for stability and profitability.
The Growing HMO Market
Despite the numerous positive aspects of investing in HMOs, the increasing attractiveness of this investment model has led to one potential challenge: a rise in competition. More and more investors are recognising the lucrative opportunities HMOs offer and are adding them to their portfolios.
If you've read this far, you're likely considering doing the same.
Impact of Increasing Competition
So, how does the growing competition affect the potential for further investment in HMOs? At Clarice Carr & Co, we closely monitor three key metrics within our HMO portfolio: occupancy rates, rents, and tenancy duration.
Occupancy Rates: Our properties consistently achieve occupancy rates exceeding 98% each month. This high occupancy is a testament to the strong demand for well-managed HMOs.
Rents: We have seen a steady increase in rental rates. This rise is necessary to cover increasing running costs, but it also reflects the market's robust demand.
Tenancy Duration: The average tenancy duration has increased from around nine months several years ago to over a year now. This longer tenancy duration indicates tenant satisfaction and stability.
Average Monthly Room Rents by Region
Region | Average Monthly Room Rent Q2 2024 | Average Monthly Room Rent Q2 2023 | Annual Change Q2 2024 vs Q2 2023 |
East Anglia | £600 | £553 | 8% |
East Midlands | £510 | £477 | 7% |
North East | £490 | £442 | 11% |
North West | £520 | £476 | 9% |
Northern Ireland | £460 | £433 | 6% |
Scotland | £570 | £538 | 6% |
South East | £650 | £600 | 8% |
South West | £590 | £556 | 6% |
Wales | £510 | £479 | 6% |
West Midlands | £500 | £462 | 8% |
Yorkshire and Humberside | £500 | £465 | 8% |
London | £870 | £815 | 7% |
UK | £650 | £606 | 7% |
UK (excl London) | £575 | £535 | 7% |
Market Dynamics
The trends in these metrics suggest a positive outlook despite the growing competition.
Increasing Demand: The number of people seeking HMOs as a viable living option is growing rapidly. In many cases, the demand for high-quality HMOs is outpacing the supply.
Quality Over Quantity: Not all competition is equal. A significant portion of the market consists of outdated or poorly maintained properties. Investors who focus on creating quality HMOs designed to meet the needs of their target demographics have a competitive advantage.
Strategic Investment
In every market, competition is a reality, and success depends on how you navigate it. At Clarice Carr & Co, we remain committed to expanding our HMO portfolio. Our strategy involves continuously investing in high-quality properties that cater to the needs of our tenants.
We believe there is ample potential for you to succeed in the HMO market as well. By focusing on quality, understanding tenant needs, and staying informed about market trends, you can carve out a profitable niche in the growing HMO sector.
Financing Your HMO
When it comes to financing an HMO, there are several options available, each tailored to different stages of your investment journey.
Expanding Availability of HMO Mortgages
In the past, HMO mortgages were offered only by a select few specialist lenders and were accessible primarily to experienced investors. However, the rising popularity of HMO investments has led to more lenders entering the market. Nowadays, HMO mortgages are available to a broader range of investors, including those with no previous experience, often at more competitive rates.
Starting Your HMO Portfolio
If you're just starting out, it's wise to begin with smaller projects. Focus on properties with a maximum of 5 occupants to ensure you have the widest range of mortgage options. This approach helps new investors manage risks effectively while gaining valuable experience.
Key Mortgage Considerations
Loan-to-Value (LTV) Ratios: Typically, you can borrow up to 75% of the property's value, similar to traditional buy-to-let mortgages. Some lenders may offer higher LTV ratios, up to 80% or 85%, reflecting the increased income potential of HMOs. However, these higher ratios are usually available only to more seasoned landlords.
Valuation Methods: Understanding how your HMO will be valued is crucial. Some discussions may revolve around 'commercial valuations,' where the property's value is based on the income it generates rather than its bricks and mortar value. While commercial valuations can be advantageous, they carry risks. Assuming your property will receive a commercial valuation, only to find it valued on a bricks and mortar basis, can significantly impact your financial planning.
Proceed with Caution
While numerous financing options are available for buying, renovating, and refinancing your HMOs, it's important to approach with caution. Plans involving commercial finance require a solid understanding of the market and reliable advice from professionals, such as mortgage advisors with expertise in HMO investments.
Strategic Tips for New Investors
Start Small: Begin with HMOs accommodating up to 5 occupants to maximise mortgage options and manage risks.
Understand Valuations: Be aware of the differences between commercial and bricks and mortar valuations to avoid unexpected financial issues.
Seek Expert Advice: Work with knowledgeable mortgage advisors to navigate the complexities of HMO financing.
By following these guidelines, you can explore the available financing options for HMOs confidently and make informed decisions to support the growth and sustainability of your investment portfolio.
What Next?
There’s no doubt that HMOs continue to be one of our favourite investment options, and we expect a significant portion of our income and future growth to come from them.
Having invested in this industry for over a decade, we are excited about the potential to keep expanding our HMO portfolio. The stability and profitability of HMOs make them a compelling choice for property investors.
About Clarice Carr & Co
At Clarice Carr & Co, we pride ourselves on our extensive experience and expertise in the property investment market. Our team is dedicated to helping investors navigate the complexities of HMO investments with confidence and success. We offer tailored advice, comprehensive resources, and hands-on support to ensure our clients achieve their investment goals.
If you’re committed to generating income from property investment in the UK, HMOs deserve serious consideration. By focusing on high-quality properties and understanding tenant needs, you can carve out a profitable niche in this growing market.
For more insights and resources, explore our extensive series of HMO-related content, which includes detailed guides, case studies, and interviews with successful HMO investors. These resources will provide you with the knowledge and tools needed to build and manage a successful HMO portfolio.
Want to know more? Check out HMO investment on our website or get in touch.
Comments