For anyone looking to purchase a Buy-To-Let property investment, a secure rental income and easy exit strategy is vital to the overall deal. Without this, your cash flow can be harmed and you may struggle to offload your property in the future. For this reason, rental assurances and buyback options are regularly offered by established developers and managing companies in hands-off investment opportunities. Here, I will explain the idea behind rental assurances and buyback options and why they are enticing more and more BTL investors.
What is it?
A rental guarantee ensures that you as the investor will be paid a specific amount of rental income over a set period of time by the developer and/or managing company. This can typically be any selected time up to 10 years, although this can vary. This practice is structured in a way that the landlord will always receive the income agreed regardless of whether the property is even let out or not. This is normally offered as an incentive to those looking to buy in off-plan developments.
How does it work?
The management company is able to guarantee the investor a set rental income because they themselves will profit from letting out the property as well. The rental assurance is only ever offered if the managing company is supremely confident they can let out the property at a higher rental income than what they’re paying the landlord. If they can, they pay the landlord what is guaranteed and pocket the difference.
What are the risks?
The most obvious risk of a rental guarantee is that if rents rise in the area in which you own your property, you are stuck with earning the same amount of money you initially agreed to. This is why it’s important to not get locked into a rent guarantee for too long i.e. 10+ years in an area you know is likely to increase in rents.
When your rent guarantee expires, you can always re-negotiate similar or higher terms with either the same or a different managing company so you don’t get left behind in rents. Alternatively, you can choose to exercise the developer’s buyback option if they have one- this brings us onto the next point…
What is it?
A buyback option, or an exit clause, gives the investor the opportunity to sell their property back to the developers for a higher price at an agreed later date. This, along with the rental assurance, gives the investor peace of mind as they know they can sell their property at a guaranteed profit later down the line. This is a contractual obligation meaning the developers have to honour this agreement should they offer a buyback option.
How does it work?
Like the rent guarantee, a buyback option is normally offered on off-plan units in new build developments. This option is given to entice investors into a deal they know they can sell on with little hassle and at a profit. Developers only really offer this kind of deal in areas they know are going to experience major capital growth- the last thing they want is to buy a property back off the investor at an inflated price. To avoid this, they do their due diligence and ensure there will be house price increases for the properties they offer a buyback deal on.
The amount in which the developer buys the property back can vary, but I would say anything from 110%-150% is typically offered.
What are the risks?
A risk involved with buying property with a buyback option applies to even those without one, but if the developer goes bust, then they are obviously unable to honour the agreement. In our experience, it’s rarely the actual developers that go bust, but rather the contractor’s assigned to build the development. In the unlikely event this happens, the developer simply assigns a new contractor to complete the building and things proceed as planned.
Another risk is that by the time you can exercise the buyback option, prices may be a lot higher than what is being offered by the developer. In this case, it’s worth noting that a buyback option is just that- merely an option. You are free to sell your unit at any time on the open market and potentially get a higher price elsewhere, the option is simply there should you want an easy exit strategy at a guaranteed profit.
In order to avoid this problem, an optional buyback agreement is a good choice, as it means that the developers are obligated to offer you the money to buy the property back, but you have the right to refuse to sell if you want to continue earning rental income.
Rent guarantees and buyback options form part of the hands-off investment approach that is becoming more and more popular. With many investors and landlords living busy lives, they are unable to constantly adjust rents or go through a painstakingly long process towards selling their property. Rent assurances and exit clauses remove all this and mean the investor knows exactly what they are earning and what they can sell their property for- there is no second guessing going on.
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