Does the HMO strategy make sense in 2023?

Are HMOs a licence to print money or is there more to it than that? And how have times changed for the HMO investor. In the first of a two-part special Alex Daley sits down with HMO heavyhitter, Rick Gannon, to find out if they are still worth the effort and what’s key to HMO success in the current market…

Houses of multiple occupation (HMOs) are a route some investors go down to achieve higher cashflow. You only have to look through a few landlord Facebook groups to see people showing off some seriously high cash-flowing, incredibly good-looking HMOs, where the numbers seem to trump anything you could do with 10 BTLs combined. But they can’t be a simple licence to print money, it can’t be that simple, right?

Right.

OTH Magazine decided the only way to really get into what HMOs are and get to grips with the strategy in today’s market was by bringing in arguably the biggest name in the HMO world, Rick Gannon. Rick both teaches and does, with a portfolio of over 50 properties and having been in the business since 1997 he’s certainly lived and breathe it. He’s a well-known content creator both on social media but also with five books having been published!

Rick Gannon - policeman turned property mogul Rick has an arresting amount of knowledge on the subject of HMOs

Let’s start right at the top and explain what an HMO is.

“The definition is three or more people forming more than one household with shared facilities, so we might liken them to student lets and to coliving etc. Essentially it’s when a group of people who aren’t related, live together.” Gannon explained.

That’s what an HMO is, but we should quickly explain what this article is not - it’s not a how to set up an HMO step-by-step walkthrough. We thought it would be more useful to help you decide whether it is the right strategy to pursue in the current market with the reality investors face in 2023. If you are already convinced HMOs are for you though we suggest you check out Gannon’s YouTube Channel, the ‘Further reading’ panel at the end of this article or stay tuned for the next issue where we will look at building your HMOs from the ground up. OK, maybe not literally the ground.

Back to it - Why HMOs?

As with everything, there are pros and cons. The pros are the things that people will shout about on Facebook, but really, when weighing up if it’s a strategy for you, the question is can you live with the cons?

“HMOs have always been very popular in terms of strategy because we could take one property that might usually rent out for around about £900pm, the average rental in the UK, if we turned that property into a four or five bed HMO we could almost double that cash flow and net profit because we’ve now got five streams of income, not one. So it’s always been very good for high cashflow.” Five incomes also means, in theory, you’re more insulated from struggling with cash from tenants having payment issues, which is never a bad thing.”

Gannon continues: “It also comes with other benefits. HMOs are easier to get your money back out of on the other end of the deal, because they cashflow a lot more, so if you’ve got a commercial valuation which is based on the gross annual rent divided by the commercial yield for the area, then the property could potentially be worth much more than it would be at a bricks and mortar valuation. So you could buy a house, pay bricks and mortar price, turn it into an HMO then refinance and get a big chunk or even all of your money back to go again for your next one.

“Commercial valuation isn’t a one size fits all, there are hybrids too where you might get bricks and mortar and a bit added to it because its an HMO, but generally commercial valuations are going to be in Article 4 areas where you can’t simply buy a house and convert it without planning permission.”

Of course though, you do have to make sure your portfolio can handle that and you’ve fully assessed the risk. He says “This comes with a warning, if you’re buying a house on a street and that house is the same as every other house and you’re going to turn it into an HMO and get a commercial valuation which could be considerably more, and then the bottom falls out of the HMO market and you’re forced to sell it as a house, then you’re going to be over-leveraged and possibly in negative equity. So it’s very important when looking at equity release, you do it for the right reason and don’t over-leverage your portfolio.”

And much like every other strategy, there are cons.

“Like everything, there’s always going to be a balance, HMOs are busier houses, so the traffic is high, there’s a huge amount of legislation, we’ve got things like mandatory licensing, additional licensing, housing acts, etc. The legislation is there to make sure landlords are compliant and put their tenants’ safety as the number one. There will always be people trying to fly below the radar, but with all the legislation it makes for a much nicer and happier experience for the tenants, they know they’re safe.”

And that’s probably the scariest thing for prospective HMO investors, it’s knowing there are hundreds of elements to an HMO, and legislation coming out of your ears. If you’re not on top of that, it’s your head on the chopping block- figuratively, of course, the government are yet to bring in a special beheading division to their landlord hunting department.

It’s not all sunshine and rainbows, there are challenges in the market and Gannon was able to help us understand how you might combat them.

UTILITIES

“We used to work on £14pppw, that’s how we used to stack our deals, sadly now that’s gone up to £22.50pppw, so we are having to push that back down to the tenant. Of course, we can only put rents up when they’re outside their fixed term, once a year. So there might be a bit of a pain that we need to swallow at times, but there’s nothing we can do about that,” explains Gannon.

“What we have to do then is future-proof. That £22.50pppw may even go up to £25pppw by the end of the year until things settle down. We can’t subsidise the tenants’ utility costs, we simply can’t. We also can’t restrict it, tenants need to be able to have full control to heat their bedrooms to 18 degrees and communal areas to 21 degrees at any hour of the day. But what we can do is put devices in, like Time-o-stat, Nest, and Inspire, that enable us to monitor and control. These can make sure the house never drops below 18 degrees but also that you can bring it down if they get over 21. If the tenant wants to boost, they can press the boost button.”

“There are a number of new gadgets coming onto the market right now that will monitor the moisture in the air, whether the windows are being left open when the heating’s on, or even when rooms are left empty. Big tip - when you’re doing utilities, there are some [wholesale companies] that will entice people in by saying it’s a budget scheme, you only have to pay say £500pm and you can budget and it looks a lot less than their other competitors, which is all good and well, but at the end of the year, they’ll work out the actuals vs the budget and you’ll pay the difference, which is often a huge amount of money, so my big tip would be - always pay on actual bill readings submitted to your supplier.”

ROOM BANDINGS

Individual banding of rooms for council tax: “On the Valuation Office Agency’s (VOA) website it says they can use their discretion to single band a room with any alterations, which could be as small as putting a door lock on, it doesn’t have to be en-suite. Start with the end in

mind, always have a clause in your contract that the tenant agrees that if the VOA singularly band their room, it’ll be their responsibility to pay your council tax at the rate set.”

SATURATION

One of the biggest concerns for HMO investors coming into the market right now is likely to be, has the shipped sailed. Is there a danger that the rich pickings are past tense and the market is oversaturated with HMOS?

“There’s always saturation and competition in any market. What you have to do is shine and adapt to survive. So if you’re going to be that landlord with wood chip walls, and old furniture, you’ll get swallowed up. You need to aspire to be in the top 15%, there’s no saturation there. It may look like everyone’s doing that from the Facebook groups but it actually represents a small slice of the market. Get out of that saturation point and get into that niche point, tenants will stay longer, occupy quicker and you can charge more.”

MANAGEMENT

Rick recommends landlords who have the capacity to do so, manage their own properties. If you do go down the agent route, remember: “They’re not the same as single lets, always ask an agent how many HMOs they manage, ask them about how quick it takes them to fill their voids on average, test them, ask the right questions on standards like room sizes etc. If they can’t tell you, they’re probably not the right people for you. And of course, testimonials, check the contract, know what your notice periods are.”

And so there you have it, our overview on HMOs, we’ve covered what they are, why you might look at them but equally why you might decide against them.

Next month we’ll dive into how to develop your own HMOs, pulling knowledge from one of the best in the business.

Are they going anywhere?

“I don’t think HMOs will ever go away, it’s a really good, affordable option for tenants who want a transient lifestyle, they can budget, live with other people and get that communal living. It’s such a strong strategy,” says Gannon.

“My number one piece of advice - do as much education as you can,” says Gannon.

“If you make a mistake and it’s too late it can cost you massively. A lot of people think they can make it on their own and they come back afterwards with a hugely expensive mistake. Read books, listen to podcasts, join a good Facebook group, find someone who has been doing it successfully, who understands the legislation, and ask to be taken under their wing. Whether that’s free, whether that’s paid.”

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