Cash Buyer vs Mortgage Buyer – Who Gets The Better ROI?

Cash Buyer vs Mortgage Buyer – Who Gets The Better ROI?

Are you wondering, “Should I buy an investment property outright or take out a mortgage on it? Which will give me the best income on my investment?” That is absolutely the most important question when you are getting into the real estate investment market.

We’re going to break down the difference between a cash purchase and a mortgage purchase and how they equate on an ROI level. Are you ready with a calculator to follow along?

Investing in a Buy-to-Let Apartment in the City Center of Birmingham

Let’s look at a one bedroom apartment at ONE BHM, which is our city centre, Birmingham Development. We’re going to enter all the costs for each of these two purchase methods.

Calculating all the Costs that are the Same

Purchase Price

First, the entry-level unit purchase price is 188,995 pounds. If you’re a cash purchaser or a mortgage buyer, the purchase price is going to be exactly the same.

Reservation Fee of 5%

When you apply to purchase the unit, you’ll pay a reservation fee of 5% of the purchase price, which is 9,449.65 pounds, and which costs exactly the same for a mortgage or a cash purchase.

Legal Fees

Whether you’re going cash or mortgage, you’ve got the legal fees to pay, which is typically around 850 pounds. There’s no getting around that. You should always incorporate every single expense on your balance sheet. A lot of people come up with a slightly high ROI because they don’t include absolutely everything that’s being paid out, such as stamp duty, legal fees, and so on.

Deposit of 30%

In this particular case, the property development company, Prosperity Wealth, allows you to break the 30% deposit into 24 monthly instalments, interest-free. So that amount will be the same whether you’re buying with cash or with a mortgage. The 30% deposit comes to 2,362.44 pounds per month for 24 months.

At this point, your deposit outlay is the 5% reservation fee, plus the 30% deposit, which is a type of exchange deposit or the slab payment, and which is broken into 24 monthly payments (interest-free), which comes to a total of 56,698.56 pounds. Paying the 30% over two years makes it palatable by spreading it out into bite-size chunks, and the big advantage is that you’re keeping control of your cash during the construction period.

Adding the 5% reservation fee and the 30% deposit comes to 66,148.21 pounds, which is your total outlay toward the purchase price.

Stamp Duty

The next expense is the dreaded Stamp Duty, which will be the same for either option, cash or mortgage. The stamp duty for this particular unit is 6,949.75 pounds. We’ve calculated this figure at the higher rate of stamp duty. If, however, you’re a first-time buyer, you’re going to be paying less than that; but if you’re an investment buyer, you’ll be paying the higher rate, whether purchasing with cash or taking out a mortgage.

Calculating the Costs that are Different

The Balance of the Purchase Price

At this point, you can sum all of those up, and what you’re left with is the remaining balance of 65% that you will need to pay when the building phase of the project has been completed. Now obviously, if you’re going the mortgage route, you won’t be paying that out in a lump sum. But with a cash purchase, you will pay the full balance of 122,846.75 pounds on completion of the project, which is the remaining 65% per cent of the full purchase price.

So if you’re buying with cash, you’ve put down a 5% reservation fee, and you’ve put down 30% over the two-year construction phase, you’ve also paid out your stamp duty and legal fees, and then on completion, you’ve got to put down the remaining balance of 122,846 pounds.

However, if you’re buying with a mortgage, that remaining balance figure is zero that you have to pay on completion of the project, because then you’ve taken out a 65% buy-to-let interest-only mortgage.

The Total Outlay

Now we get your total outlay. For a cash purchaser, it is 196,794.75 pounds. That’s what you’ll have paid out for the total purchase price, plus your legal fees and stamp duty.

However, if you are buying the property with a mortgage, the total outlay is 73,948 pounds, which is for the 5% reservation fee, the 30% down payment over instalments, legal fees and stamp duty.

Figuring in the Income and Expenses for a Rental Apartment

Income from Rent

Now comes the good bit. Obviously, as an investment property, it’s going to bring in some income as a rental unit, and rentals for this particular property are estimated at 10,800 pounds per annum. This figure is based on what the developer, Prosperity Wealth, is achieving right now in the city centre for a one-bedroom apartment of equivalent size. So you’re looking at a rental income of 900 pounds pcm.

Expenses: Service Charges, Management Fees and Ground Rent

Then you’ve got the expenses, service charges and running costs, which is money you will pay out. These charges will be the same whether you’re a cash buyer or mortgage buyer, and they will run about 1,000 pounds per year.

The next expense is ground rent, which will come to about 300 pounds per year. When you’re buying leasehold property in the U.K, especially the newer investment apartments, you’ll always be paying ground rent for buy-to-let properties.

And then you figure in paying your management fee, which in our calculations is 12%. So that comes to 1,555 pounds for the top level of management. With this development company, they allow three levels of management at 8, 10 and 12%, so we’re going with the most expensive option of 12% management fees. Those are your running costs.

Mortgage Payments

And then, another outgoing cost is factoring in the mortgage payments. Obviously, if you’re buying the property outright with cash, your mortgage is a nice, round zero, because you’re not servicing any finance charge. You are figuring in your income, minus the running costs and management fees, and that’s it. The rest is in your pocket.

Whereas, the mortgage purchaser, who took out an interest-only mortgage based on the remaining balance will be paying out 3,685.40 pounds per year. That amount is figured at a very conservative 3% interest rate for 65% of the total purchase price. We’re being very conservative figuring it at 3%, but it’s highly achievable. We’re fairly confident you can do better than a 3% rate, but again, we’re being conservative.

In this scenario, the mortgage payment works out to 307.08 pounds per month, which is an outgoing expense.

Calculating the Percentage of Return on Investment (ROI)

So now we are looking at what you’re left with, which is your return on investment, or ROI. In this particular case, for the cash buyer, we’ll start with your income and subtract all your expenses, which leaves you with a net return of 7,945 pounds. We’ll label that as Net Income.

Then for the mortgage purchaser, obviously, it’s going to be a bit lower because you have to factor in the monthly mortgage payments as well. So if you’ve taken a mortgage, you’ll be making 4,259 pounds as Net Income.

So you can see, quite obviously, if you are not servicing a mortgage, you’re getting a larger monetary amount of net income. But if you’re servicing 3,685 pounds worth of mortgage a year, you’re getting a lesser amount from your income after all your costs.

If you figure the percentage of the income for the cash buyer and put it into an ROI, which is your return on cash employed, that works out to 4.03% ROI. And that 4.03% is not too shabby; it’s above the U.K. average. That figure is calculated from your net return, which is your total cost divided by your total outlay.

However, if you’re a mortgage buyer, you have paid a lot less money up front, and so the ROI comes to 5.72%. Even though you’re getting a lower monetary amount return, you’re getting a higher percentage return on your total cash outlay.

Let’s compare the outcomes. The cash buyer has outlaid 196,794 pounds, and the mortgage buyer has outlaid only 73,948 pounds but is servicing a mortgage. The mortgage buyer is still getting a better percentage of return on investment by purchasing with a mortgage for this real estate investment model. And obviously, to get this better rate of ROI, you need to be able to get approved for a mortgage loan.

A Client with 200,000 Pounds to Invest – What’s the Best Real Estate Investment Strategy?

Let’s take a real-life scenario of a client who has received a 200,000-pound inheritance and wants to know how to invest it in real estate. When you run the numbers with this investment model of a one-bedroom apartment in a city centre development project, it’s possible that the client could go with a mortgage purchase of two of these units, which would come to an investment of about 144,000 pounds.

That means that she will have a total outlay of 144K, which is still less than a cash buyer would spend for just one of the same apartment units. And she would still have about 50,000 pounds left over to spend elsewhere, like fixing up her own home, going on holiday, or investing elsewhere.

In addition to that, once you double the net revenue that would come in through purchasing and renting out two apartments, that comes to 8,510 pounds per year of net income. It’s a no-brainer by all accounts.

Who Gets the Best ROI? – The Cash Buyer or the Mortgage Buyer?

So the outcome of this scenario is this: Instead of spending 196,749 pounds and taking no mortgage to receive a 4.03% return, you could buy two apartments with mortgages, spend less, and still have 55K in the bank, while getting a higher return of 5.72%. So as a mortgage purchaser you are still getting a high monetary return, which represents a higher ROI on the total investment amount.

You’ve also then got two properties that are in a perfect location in the city centre, and that are on the grow, so you get double the advantage of the capital appreciation. You’ll be getting two properties for less than the price of one if you were to pay the full purchase price with no mortgage.

Also, you’ve got the flexibility of earnings from two properties to either hold them both for the long-term, or sell one of them once the project is completed, and keep the other one, or possibly take out a re-finance on the mortgage at an advantageous point. You’ve got a lot more flexibility with two properties than with one.

The bottom line is that you’ll be getting a bigger ROI for the money you’ve invested as a mortgage buyer, and you’ve got more cash in the bank. So to conclude, for real estate investment rental properties, it’s best to be a mortgage buyer rather than a cash buyer.

Get in Touch

To discuss how we can help you with your next buy-to-let investment, talk with us directly, you can call us on +44 (0) 2039507939 or send us an email at info@thirlmeredeacon.com. If this is your first time landing on Thirlmere Deacon Property Investments I encourage you to visit our homepage https://tdpropertyinvestment.com to read more about us and to see what we have on offer.

Thirlmere Deacon Ltd

Thirlmere Deacon Property Investment UK

Thirlmere Deacon Property Investment
4th Floor,
7/10 Chandos Street, Cavendish Square
London, England
W1G 9DQ
+44 (0) 2039507939

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Stuart Williams

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