BTL - Interest or Repayment (Confused!)

drummer_666

I can't get my head around why interest only loans are usually supposed to be better than repayment for a BTL.

I understand that you offset your interest against tax, so if you're on repayment then the interest will decrease, so the taxable amount of income will increase. But, after 25 years you'll own the house outright and although you'll be paying tax on all rental income (after taxable expenses), the amount of income will be much higher.

I know instead of repayment, you could put the money into a savings account. But, if you were paying off the capital the interest would be decreasing so profits would increase...

If I bought a house for:
£80,000 with a 35% deposit. 3% interest, 25 year term that would be £248.85 repayment or £130 interest.

I'd rent for £550 with £175/month management & maintenance costs

On interest only = £2,352 yearly profits after tax for the whole term
On repayment only = £684* yearly profits after tax for the 25 year term, then when mortgage paid of £3,600 yearly profits after tax.

*figure is low guess of £30/month average for interest portion of mortgage

After the end of the term there are two options. Sell the house or remortgage.

Say the house has increased in value by 10% (8k)

Interest: £58,800 profit through income, plus 8k increase = £66,800 profit
Repayment: £17,100 profit through income, plus 8k increase plus capital = £77,100

OR remortage:
Interest: £2,352 yearly profits after tax for the whole term
Owned Outright: £3,600 yearly profits after tax

Please tell me if I've worked this out wrong because I think I must have done, but I'm having trouble getting my head around it!

Also, for me property developing for resale seems more profitable than investing..

So for the very long post!!

ACG

Forget what other people do and which is supposed to be better. What do you want from your investment?

Do you want a monthly income or do you want the properties paid off so when you sell them later on down the line you have a bigger lump sum?

This is down to you and what you want, not what other people do or what you read is best etc.

gallygirl

Do you have a mortgage on your own home?An alternative then would be to have an IO mortgage on BTL but use the difference between that and a repayment mortgage to make OP's on your own home.

You could also invest the difference in a S&S ISA, depending on how risk averse you are.

CLAPTON

it's mainly an investment choice

do you have better uses for the money that repaying your BTL mortgage?
if yes then have interest only
if no then repayment

better uses might be
-building a deposit for a second BTL property
-paying fof other higher interest rate debt
-building an emergency fund
-repaying your own mortgage if the interest rate is higher
-investing elsewhere
-wine women and song (or the female equivalent as appropriate)

drummer_666

thanks for reading my long post!!

So, I am actaully working it out right, it would be more financially profitable in the long term to overpay/repayment. I was given myself a real headache over this!

long term it would also work out more profitable to have one repayment BTL than 2 interest only BTL

I'm not very risk averse to be honest, not with money anyway

I guess another option is to get an interest only mortgage where there are no fees to overpay by a big percentage every month. Then I could overpay most months, but in months the house is empty not overpay.

Although I still don't get why people say to not overpay, but put in a savings account if the savings rate is higher. That sounds right mathematically instantly, but not after a few years even?

yes, have own mortgage so if the interest rate was higher on this mortgage then overpaying here instead would be better, thanks that's somethign I hadn't thought of

drummer_666

ACG
I guess the income/later lump sum is the biggest question of all. Whether you want to quit your job to do this full time, or if it's something extra.

I think you'd need roughly 16 properties to be able to do this as a full time wage on interest only, but 45 if repayment!

If this was your full time job, prob be better having 15 IO & 2 or so repayment...

But then man, that's an awful lot of money you'd need for the deposits! I better get developing and selling quicker if I'm to do that in the next 10 years! Or find a rich husband lol

holly_hobby

The fundamental difference (as I've discussed in another thread) is that, interest only the entire mge interest (notwithstanding equity release ceiling equivilent to original pch price/value ), is fully deductable from rental income. However the debt remains constant thoughout the term (unless lump sum reductions are made) - and over the term obv the chargeable interest will exceed that incurred under a repayment (C&I) arrangement (tax deductable or not).

C&I, only the interest element is deductable, so that means that you will have to absorb the capital repayment element of the mge repayments, which obviously will affect your net yield to a higher degree, BUT your debt and charbeable interest will obv reduce over time, which eventually will result the he freeing of equity (subject to markets), which will faciliate any future equity release exercise (subject to max LTVs and meeting lender's suitable rent/mge interest ratios).

Choosing C&I, can also go someway to protect you from negative equity, if you feel or are worried market values may fall, and you don't wish to utilise other alternative investment vehicles (with higher net returns) as a protective slush fund instead of direct on going capital reduction.

So how YOU want to manage your business, as stated above, is YOUR decision, based on YOUR financial circs, ATR and aspirations fo the business.

It really essentially boils down to ...

Do you want to maximise your available tax breaks under an IO arrangement

OR

Do you want to minimise the overall servicing costs of the investment over the term (ie as the debt reduces so does the incurred interest), whilst eventually ending up with a debt free/unencumbered asset ?

Only you can make the right decision for you.

Hope this helps

Holly x

Thrugelmir

drummer_666 wrote: »

I can't get my head around why interest only loans are usually supposed to be better than repayment for a BTL.

I understand that you offset your interest against tax, so if you're on repayment then the interest will decrease, so the taxable amount of income will increase. But, after 25 years you'll own the house outright and although you'll be paying tax on all rental income (after taxable expenses), the amount of income will be much higher.

I know instead of repayment, you could put the money into a savings account. But, if you were paying off the capital the interest would be decreasing so profits would increase...

If I bought a house for:
£80,000 with a 35% deposit. 3% interest, 25 year term that would be £248.85 repayment or £130 interest.

I'd rent for £550 with £175/month management & maintenance costs

On interest only = £2,352 yearly profits after tax for the whole term
On repayment only = £684* yearly profits after tax for the 25 year term, then when mortgage paid of £3,600 yearly profits after tax.

*figure is low guess of £30/month average for interest portion of mortgage

After the end of the term there are two options. Sell the house or remortgage.

Say the house has increased in value by 10% (8k)

Interest: £58,800 profit through income, plus 8k increase = £66,800 profit
Repayment: £17,100 profit through income, plus 8k increase plus capital = £77,100

OR remortage:
Interest: £2,352 yearly profits after tax for the whole term
Owned Outright: £3,600 yearly profits after tax

Please tell me if I've worked this out wrong because I think I must have done, but I'm having trouble getting my head around it!

Also, for me property developing for resale seems more profitable than investing..

So for the very long post!!

A very valid post. As you are considering what many fail to do. That is to consider the longer term and their exit route. The credit boom period was all about appreciating values, i.e. capital gains. Prior to 1998 there were a minimal number of "BTL" loans. As in many regards the numbers didn't stack up. Property purchase and letting was really the preserve of those with capital.

Offsetting of interest is something restricted to BTL. It's a tax deductible expense in any business. So isn't anything special.

Personally, if the circumstances were right, I would opt for paying down the mortgage. As to provide a long term rental income the property needs to be mortgage free. The deposit for the next property also needs to be generated from cashflow from the first and so on.

holly_hobby

Thrugelmir wrote: »

Offsetting of interest is something restricted to BTL. It's a tax deductible expense in any business.

T. means interest offsetting isn't a benefit solely restricted to BTL/semi commerical finance .

As T says., as with all businesses, associated operational business costs and finance interest are a permitted HMRC deduction (notwithstanding as I say the celing on equity release exercises, which may take the effective business account overdrawn).

H x

vectistim

Mine are all repayment, my intention being that they will provide an income.

Certainly I could have built the portfolio faster if I had stuck with interest only and capital raised up to the hilt all the time. Had I done that I would now be sitting here with outstanding mortgages somewhere in the region of the million pound mark, which personally I would find a little scary. If I have some catastrophe at the moment I should be able to manage to ride out the problem, if I was maxed out I'd have a much shorter time to sort it out.

CLAPTON

drummer_666 wrote: »

Although I still don't get why people say to not overpay, but put in a savings account if the savings rate is higher. That sounds right mathematically instantly, but not after a few years even?

Of course it's equally true over the long term or over the short term

if the interest (or dividend or capital growth) is greater on your alternative 'savings' plan than the interest on your mortgage then it's financially beneficial to have the IO mortgage (obviously taking into account the tax situation as one would for any investment decision).