Understanding HMO, part 2: A good investment?

With HMO emerging as a relatively new investment strategy here in Ireland, I’m getting more and more people asking me about it, as they try to work out how to build their portfolio and move forwards in their Real Estate career.

A lot of people are starting to explore this, as it seems like kind of a lucrative avenue for people that are looking at investing in the Irish market, and I’ve talked about HMO a lot this year.

I decided to create short series of blogs that I hope will help you get to grips with it – what it is, the pros and cons etc. Last week I talked about what HMO actually is, how it differs from an old-fashioned flatshare set-up, and whether it could be a solution to the housing crisis; this week, I want to look at whether or not HMO is a good investment, and some of the legislation you have to be aware of.

Double the income, double the value?

So, you might think that if you can increase the amount of income you’re getting from a property, that the value of your asset automatically rises as well. When it comes to commercial property, a lot of the time that’s true: if you can double the value of the rental income by splitting a huge unit into two or three slightly smaller units, you've effectively doubled (or more) the value of the property.

However, that’s not always the case when it comes to residential, and that’s to do with how the valuation system works here in Ireland. Typically, the banks will send out a valuer to look at a property, who will look at the highest price achieved on the open market by a property on the same street, then work their way backwards from there.

They'll make comparisons, say that one or other is a better property, or in a better condition, and they'll apply a value based on those criteria. They’re not giving any thought to what kind of rental income could be achieved, so you won’t get a figure substantially above that highest value property.

Earning potential

Even if the landlord next door is earning 3,000 and you're there earning 6,000, it won’t make a difference in terms of valuation. If you have a place in a residential area and put it on the market for sale, the likelihood is that it's going be a family buying, to move into as their permanent residence. They won't care about the fact that it's possible to earn 6,000 a month from your property, they just want a home.

So it’s something to be aware of when you’re thinking about your longterm plans and financial goals.

Risky business

You might ask, given the earning potential, why isn't everyone piling in to HMOs? There are a couple of reasons.

The first thing I always warn people about is the fact that even though HMO is currently not regulated in Ireland, that may not always be the case. So you need to be careful and bear in mind that if (or more likely, when) it’s eventually regulated, the way you've divided up your house may no longer be in compliance.

Perhaps your rooms will be too small: current legislation in the UK (where HMO is regulated) states that a room has to be at least 4.64m2 for a child under 10, 6.51 m2 for one person over 10 years, and 10.22 m2 for two people over 10 years.

In a large HMO (ie with 5 or more tenants), landlords in the UK need a licence from the local council, who may also impose additional requirements, on top of those already set out by the government and ones that all landlords (regardless of property type) have to adhere to, such as fire safety and gas and electric certificates.

Remember, when it comes to health and safety, it is actually a criminal matter if anything goes wrong. So you might want to watch your pennies when you’re doing a refurb, but there are areas that you just shouldn’t skimp on, like your fire alarm systems. All it takes is for someone to be having a sneaky cigarette in their room, or a lit candle that they’re not paying attention to, and you’ve got a house fire that can spread quickly. Should anyone be hurt, you wouldn’t just get slapped with a fine, you could end up behind bars. ?

Who’ll decide the regulations?

If (when) those regulations come in, what might they look like? Well, what has happened in Ireland before is that, rather than write hundreds of pages of legislation, the Government take the UK regulations and turn them into the Irish regulations with almost no changes at all to start with.

Obviously, these would evolve over time, but if you’re seriously thinking about HMO and want to avoid any issues down the line, I’d recommend taking a look at the UK market as a fairly reliable template. As happened with the regulations around Airbnb in Dublin, you have to be careful of that potential for disruption when new legislation is introduced.

It could be years from now before this all happens but you don't want a situation where suddenly your property, which has been very profitable for many years, is suddenly completely out of compliance and you have to get everyone out in order to do a big refurbishment.

Bills bills bills

One last thing to think about for now is what else you’re responsible for paying for. Whilst you can get lots of money per rent from all the individuals, the way it works with HMO is that the landlord covers the utility bills.

In and of itself, that’s not necessarily a bad thing, however, what happens when people abuse that fact and leave the heating or the lights on all day. Given today’s energy prices, that can mount up to some pretty unwelcome shocks!

Some of the people in my program that have HMO properties have told me that they'll call over to one of their houses and find that everyone's walking around in a T-shirt, the heat is on full blast and yet the windows are all wide open (because they're too hot). Because the tenants aren’t paying the bills, they’re not necessarily considering the cost, and some of my clients have nightmare stories where it's cost them 2k/month or so, which obviously removes any profitability.

There are ways around this though – there are ways of plumbing in your system with smart sensors. Yes, that might seem like a big outlay, but it’ll save you money in the long run if someone’s gone out all day with the heat blasting, or they’ve left the heating on and the windows open… that kind of thing can cost you a fortune.

All in all, if you’re thinking about HMO as an investment strategy, as with all things, you need to do your homework! What I’ve talked about here are just a few things that can come and bite you in the ass if you’re not careful. Have a listen to episode 213 of the podcast for a deeper dive on the topic.

I’ll be continuing this series with a look at strategies for maximising your ROI (return on investment), including the importance of property presentation and amenities, so join me again soon.

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