If you’re a landlord, or you’re thinking about becoming one, you may have come across the Prudential Regulation Authority (PRA) regulation changes. The way buy to let mortgages are approved has changed, and you need to be ready.
The PRA is part of the Bank of England. They regulate around 1,500 banks, building societies, credit unions, insurers and major investment firms. What do the PRA regulations involve?
The reason the changes have been made is to make sure lenders only offer buy to let mortgages to landlords that afford them. This means landlords now have to give their lenders additional information about their income, outgoings, assets and liabilities.
The initial changes were brought in at the start of the year. From January 1st 2017, lenders had to bring in affordability tests, stress testing and the Interest Coverage Ratio, or ICR. Further changes took effect on September 30th 2017.
Interest Coverage Ratio (ICR) helps lenders work out what you can afford to borrow
The PRA expects lenders to define their individual ICR as a ratio of the expected monthly rental income from the buy to let property to the monthly interest payments which take into account likely future interest rate increase.
It’s used to assess the debt you intend to take on, and how easily you can pay it back using the rental income of your new property alone. If the property won’t bring in enough income, your lender can’t grant you a mortgage on the basis of rental income alone.
Income assessment for landlords using their personal income
Provided your Interest Coverage Ratio meets the threshold of 125%, you can apply to use your personal income, as well as potential rental income, when taking out a buy to let mortgage.
Personal income will be considered where there is a shortfall in the required rental income being received from the property to achieve the required ICR rate however, the PRA has stated that minimum ICR rate is set at 125%.
If you want to do this, your lender will assess your income. This includes all sources of income, but also any credit and daily living costs. This can go into a lot of detail with day to day expenditure, council tax, basic recreation and repairs all taken into account. Your lender must also take into consideration things like retirement.
Stress test for future affordability
Your income may mean that you can comfortably cope with the interest payments today. But what about if interest rates go up in future, specifically within the next five years?
Your lender needs to calculate how you can respond to interest rate increases for a minimum of five years.
This means landlords now have to give their lenders additional information about their income, outgoings, assets and liabilities