John Heron helped create buy-to-let when landlords had almost nowhere to turn for finance. Thirty years later, he and Paragon Bank’s Louisa Sedgwick reflect on the boom, the backlash – and why they believe Britain needs the sector more than ever.
John Heron wasn’t convinced. It was 1995 and the mortgage industry, as ever, was awash with predictions about the next big thing. So, when representatives of the letting industry began talking to the then Paragon executive about creating a new type of mortgage specifically for landlords, his initial reaction was scepticism.
“There’s always a lot of buzz in the mortgage industry about whatever the great big new niche is going to be,” Heron recalls. “It wasn’t obvious to me, at that point in time, that this would take off.”
Then he listened to what letting agents were telling him. Britain was emerging from a bruising housing downturn. Repossessions had soared in the early 1990s, confidence in home ownership had been damaged and letting agents were seeing queues of tenants for every property becoming available.
Landlords, meanwhile, were telling agents that they would happily buy more properties. There was just one rather fundamental problem.
“There was literally no product designed to help landlords expand their portfolios,” Heron says.
A landlord wanting to borrow had little choice but to take a commercial mortgage, typically repaid over a relatively short period and poorly suited to an asset that might be held for decades. Some used ordinary residential mortgages without telling their lender there were tenants in the property, putting them in breach of their mortgage terms.
THE BIRTH OF BUY-TO-LET
The answer developed by Paragon, the Association of Residential Letting Agents (ARLA) and specialist brokers was deceptively simple: create a mortgage specifically for somebody buying a home not to live in but to rent out.
And so the buy-to-let mortgage was born.
Paragon had already written its first dedicated landlord mortgage in 1995, a £31,150 loan at 70% loan-to-value on a £45,000 property. The term ‘buy-to-let’ followed in 1996, with the industry initiative officially launched that September.
Thirty years later, Louisa Sedgwick sits at the other end of that story. As managing director of mortgages at Paragon Bank, she oversees a business operating in a market that Heron admits became vastly bigger than he imagined.
Her own relationship with Paragon, however, began from the other side of the fence.
WHEN CAUTION PAID OFF
During the financial crisis Sedgwick was at Mortgage Express, then a major buy-to-let lender, looking across at Paragon’s more conservative approach and wondering what it was doing.
“They’re doubling down on all this. They’ve got a lower loan-to-value than we have. How much are they missing out on?” she remembers thinking.
The answer, with hindsight, was rather different.
“They were lending prudently for all the right reasons, having done their research and homework, whereas maybe some of the other lenders weren’t necessarily as prudent.”
Heron helped establish the underwriting principles behind a new mortgage in the 1990s. Sedgwick is now responsible for taking them further into a market that has survived a financial crash, repeated tax and regulatory intervention and a fundamental transformation in the landlords using it.
And despite everything that has changed, Sedgwick says the basics have not.
“Are we happy with the property? Is it a good quality property for a tenant to live in? Can the landlord afford to make payments should it go wrong? And is there an overarching willingness for them to make those payments?
“I don’t think any of those fundamentals have changed within Paragon,” she says.
Technology increasingly assists the process but Sedgwick says every case is still underwritten.
“But the fundamentals of, can the customer afford it and are they willing to make those payments, is where you need to be.”
Heron remembers having to construct that approach from scratch. Unlike a conventional residential mortgage, assessing a buy-to-let loan meant underwriting both the borrower and the property as a business asset. It was not enough to establish that the house was sound security. Paragon also needed to determine whether there would be sufficient tenant demand and rental income.
“It wasn’t just an owner-occupied product stuffed into a buy-to-let mould,” he says. “You really had to think it all through from the beginning.”
The response when the product reached the market removed any lingering doubts.
“The interest in it from day one was quite remarkable,” Heron says.
FROM NICHE TO SERIOUS BUSINESS
By the early 2000s, larger mortgage lenders were paying attention. Heron still resists describing buy-to-let as ‘mainstream’ – he believes it remains specialist lending when done properly – but its scale increasingly made it impossible for mainstream lenders to ignore and that competition soon followed.
“I was hoping that we’d have it to ourselves for a longer period,” he jokes.
But he believes it was that competition which ultimately improved the market, forcing lenders to sharpen pricing, funding and products. However, he also remembers the warning signs that emerged before the financial crisis as certain lenders loosened their underwriting criteria in a bid to scoop up business.
Paragon insisted on physical valuations and maintained affordability safeguards. Elsewhere, Heron says, the level of inquiry sometimes became considerably less robust.
The financial crisis subsequently forced lenders across the market to reconsider funding and underwriting. For Paragon, it also helped drive the thinking that eventually led to the creation of Paragon Bank, enabling it to reduce its reliance on wholesale bond markets.
Regulators later formalised minimum standards and in September 2016 the Prudential Regulation Authority introduced expectations for buy-to-let underwriting, including affordability stress testing and specialist assessment of portfolio landlords with four or more mortgaged properties. The measures were phased in during 2017.
LANDLORDS GROW UP
Buy-to-let mortgages have evolved over time but Sedgwick believes the bigger transformation has been in the landlords taking them out.
The amateur or ‘accidental’ landlord with one or two properties has increasingly given way to larger operators running portfolios as businesses.
One catalyst was George Osborne’s 2015 decision to restrict mortgage interest tax relief for individual residential landlords to the basic rate of income tax. The change was phased in from April 2017 and helped accelerate the attraction of limited-company structures for landlords – limited company buy-to-let.
“You’ve definitely seen that transition towards the limited-company space,” Sedgwick says. “The vast majority of landlords, particularly starting their journey in the private rented sector, will do so in a limited company. And I think that’s a good thing.”
She dislikes describing the process simply as ‘professionalisation’, on the basis that anybody providing somebody’s home should behave professionally. But there is little doubt, she says, that the sector has become more businesslike.
Today, buy-to-let has become entangled in one of Britain’s most politically charged arguments: whether landlords are part of the solution to the housing shortage or part of the problem.
Sedgwick has little difficulty identifying what she thinks is the biggest delusion about the sector.
“That it’s full of rogue landlords,” she says. “There’s a misconception that these landlords have got really deep pockets. They’re all thieves and vagabonds. Feel free to quote, because clearly, they’re not.”
Landlords, she argues, are housing providers as well as businesses. They pay tax and support letting agents, tradespeople and other businesses around the rental economy.
Heron believes the suspicion of landlords runs much deeper than the modern buy-to-let debate.
“There is no great love for a landlord.”
“You can go back to Shakespeare,” he says. “There is no great love for a landlord.”
And that hostility, he believes, has periodically distorted housing policy with Osborne’s 2015 Budget providing an obvious example. The then chancellor explicitly presented his restriction of landlords’ mortgage interest relief as creating a ‘more level playing field’ between those buying property to let and those buying homes in which to live.
The political argument was seductive: make property investment less attractive to landlords and give aspiring homeowners more opportunity.
But Heron thinks it misunderstands how housing tenure works.
“The vast majority of tenants in the private rented sector are not there because they have an immediate option in the owner-occupied sector if only housing was a little bit cheaper,” he says.
Some are students. Others are starting careers, moving between towns, living alone or unable to access social housing.
“You cannot fix the problems in the owner-occupied market by destroying the private rented sector. You simply make the whole housing market worse.”
LANDLORDS VERSUS FIRST-TIME BUYERS
The accusation that landlords compete directly with first-time buyers is more complicated.
Heron accepts that, at the broadest level, they are buying homes from the same housing stock and sometimes looking at properties on the same streets. But their behaviour, he argues, is markedly different.
A landlord is buying an asset that has to produce an acceptable return. A first-time buyer is choosing a home.
“They’ve got very different buying behaviours,” he says.
Sedgwick makes the point more bluntly. A first-time buyer is unlikely to be competing with someone investing in house in multiple occupation as part of a lettings business, she says, because the property and economics are entirely different.
Both ultimately come back to the same problem: Britain does not build enough homes.
In England, the private rented sector now houses about 4.7 million households, or 19% of the total. During the 1980s and 1990s it accounted for only about 9% to 11%. It has effectively doubled in size since the early 2000s.
For Heron, that growth represents an expansion in housing choice that would have been difficult without access to suitable finance.
For Sedgwick, however, the industry has failed to make that case forcefully enough.
Paragon regularly talks to ministers, officials and policymakers about the importance of the private rented sector, she says, but many of Britain’s biggest mortgage lenders have much larger owner-occupied businesses.
“I think that a lot of the other bigger voices within the industry… will all be conflicted because they have got an owner-occupied foot in the camp as well as a private rented sector.”
The political challenge is also becoming more acute. The Renters’ Rights Act has significantly strengthened tenant protections, including the abolition of Section 21 ‘no fault’ evictions.
And while Sedgwick says many of the principles make sense, she also worries that legislation designed to protect tenants can have unintended consequences when rental homes remain scarce.
If landlords know it is harder to regain possession, she argues, they may conduct more intensive checks before accepting a tenant. In a market where several applicants can be chasing the same home, that could make life harder for people with weaker credit or rental histories.
“The most vulnerable people in society that this Act was supposed to support, it is probably going to act against them,” she says.
Heron says it’s all a question of balance. If regulation, taxation and the cost of operating rental homes become sufficiently onerous then some landlords will leave. If supply then falls while demand remains, rents rise.
“Everybody’s got to understand this is a circular process,” he says. “There are trade-offs.”
History provides a warning. Long before buy-to-let existed, private renting had spent decades shrinking as home ownership and social housing expanded and regulation made being a landlord progressively less attractive.
Neither Heron nor Sedgwick suggests Britain is returning to that world. But both want housing policy to be considered across all tenures rather than treating home ownership and private renting as opposing forces.
“I’d like to see a holistic view of housing tenure.”
“I’d like to see a holistic view of housing tenure,” Sedgwick says, adding that a housing minister who remains in the job long enough to make lasting decisions would also help.
If she could ask for one surprise over the coming decade it would be less government intervention.
“I’d be pleasantly surprised,” she says. “But I don’t think that’s going to be the case.”
What she does expect is further professionalisation and a gradual improvement in the environmental performance of rental homes. Landlords may increasingly invest in newer properties and technologies such as solar panels, although she is more sceptical about the economics of heat pumps for the sector.
Heron, meanwhile, is struck by something more fundamental: simply how large the mortgage he helped create became.
“I did not expect it to grow to the extent that it has,” he says.
Paragon says buy-to-let mortgages now account for about £300 billion of outstanding lending across roughly two million loans. Since writing its first landlord mortgage, the lender itself has supported more than 300,000 landlord customers and written more than 240,000 mortgages worth about £33 billion.
THE CASE FOR BUY-TO-LET
Thirty years after buy-to-let was created, does Britain need more of it or less?
“You absolutely need more of it,” Heron says.
Part of that is simply scale with social and demographic changes – migration, greater job mobility, more single-person households and careers that require people to move – making a flexible, transitional form of housing increasingly important.
“We’re living in a world that doesn’t look like the 20th century really at all,” he says. “People are going to have to be much more mobile in the job market. And in that world, a transitional tenure is really important.”
Sedgwick agrees but stresses that the political obsession with getting first-time buyers into home ownership can overlook what happens before they buy. For many, renting is not an alternative to home ownership but part of the journey towards it.
“You learn how to manage a household. You learn how to live within a neighbourhood. You learn whether or not the person you think you love and want to marry is the right person for you,” she says. “It’s a bit of that try before you buy.”
After three decades dominated by mortgages, taxation, regulation and politics, Sedgewick’s ‘try before you buy’ argument takes buy-to-let back to where Heron’s story began.
In 1995, letting agents were telling him that tenants were queuing for properties, landlords were willing to buy more of them, and the financial system was failing to connect the two.
Three decades later, buy-to-let is a name everybody recognises, landlords have become businesses, lenders have become banks and governments have repeatedly rewritten the rules.
Yet the fundamental problem that created buy-to-let has never really gone away: Britain still needs more homes than it has, including homes for people who want, or need, to rent.
