We recently added another HMO to our portfolio, with a commercial to residential HMO conversion, transforming an old retail building in Macclesfield town centre. This 6 bedroom house is another great example of doing things a little differently when it comes to HMO investing, so we wanted to share some of the key details of the project including what went well and a few things that didn’t go as expected.
The Property
Prior to our purchase, the building had been used for many years as a retail outlet for a computer repair company. The ground floor was used daily but the upper two floors were long term storage.
It’s located on one of the main streets in Macclesfield, a short walk from the pedestrianised high street which leads to the train station, and is close to a large hospital and plenty of local employment.
Despite it being on a busy main road and surrounded by commercial property, it’s very close to other residential houses so converting it to residential wasn’t a completely absurd idea.
Typically a retail building (A1 use class) can be converted to residential under permitted development, so long as the GIA (gross internal area) is less than 150 square meters. This building fit the criteria at around 145 square metres, but due to it being in a Conservation Area the local authority had removed certain permitted development rights.
As such, we submitted a full planning application for the change of use which was approved without any major delays.
Sourcing
Something we get asked about all the time (alongside questions about commercial valuations for HMOs) is how we source our projects. 9 times out of 10 they’re on the open market, and this was no exception.
It had failed to sell at auction prior to us finding it, and was being advertised again for a second auction a few days after we viewed it. Despite our best efforts, we couldn’t complete our due diligence in time and have certainty around financing so we watched the auction with interest but had no plan to make a bid.
Thankfully for us it didn’t meet the reserve price on the day so it didn’t sell for a second time and we got a call the next day from the auction company saying the vendor was now very keen to sell. We agreed a price of £80,000 (£10,000 less than the reserve from the previous day) on the condition we could exchange with a 5% deposit instead of the usual 10%.
I knew we could find an investor for it at that price, so put the deposit on a credit card and instructed our solicitors.
It was priced low for a reason – the building was in a bad condition and parts of it were literally falling down – but we knew it’d be worth close to £300,000 after conversion so even if we had to knock it down and rebuilt it, there was still a good margin for us.
Every time we’re sourcing a new deal, we take the same approach. We look for sites or buildings that other people are put off by. It could be an issue with something tangible like the foundations, or less visible like an awkward covenant on the title, but if nobody else wants it and we know the issue can be fixed, it usually leads to a good negotiating position for us.
The Numbers
After buying it for £80,000, we knew this was only the starting point. Serious work was required to bring it up to a habitable condition in line with our professional HMO standards.
We had budgeted £90,000 for the renovations, which with hindsight was too low even before we uncovered some of the more serious issues. Now as a minimum we expect to spend £750 per square meter on a commercial to residential HMO conversion, so our best case estimate should have been closer to £110,000.
In reality, we uncovered structural issued beyond what we expected, resulting in the budget increasing throughout the project to a total of £130,000. This is a major difference of 40% over our initial estimates, which came down to a few different issues during the project:
- Time Pressure – our first issue came from rushing to buy the property before completing our usual due diligence. Due to the timing of the auction and the option to buy it for £80,000 we made a judgement call. With a £90,000 renovation cost it was a no brainer. We stress tested it up to £150,000 and it still provided a good return, so although our figures weren’t nailed down, we knew there was plenty of margin if we incurred additional costs.
- Hidden Issues – again due to time constraints, we didn’t instruct a structural survey prior to offering. We knew there were issues with the building – we could visibly see some, and the price indicated further issues – but the reality was even worse than expected. A stud wall around the entire perimeter hid a lot of cracks and some dodgy steel work that needed attention, as well as hiding the full extent of damage caused by a long standing leak from the roof.
- Scope Creep – as with a lot of our more ambitious projects, and tied to the two factors above, we made a few changes to the project scope which added to the budget as well. From a design perspective we made a few changes to layout, including things like moving the staircase to create better flow through the house. From a more practical point of view, we made the decision to replace all of the joists throughout the building. Some had suffered damage from damp, a few others were undersized, but whilst most had some life left in them we made the call to replace them all now to ensure we had a solid structure long into the future.
With a total spend of £80,000 on the building, £130,000 on the conversion and roughly £10,000 on legal and professional fees, our total investment is £220,000 for a spacious 6 bedroom professional HMO in a great location.
By the time you’re reading this we should be fully tenanted with a gross monthly income in excess of £3,000 and a net profit in excess of £1,500, or £18,000 per year.
We’re awaiting the mortgage valuation, but hope this to be in the region of £280,000, so with a 75% mortgage we’ll have £10,000 of our own finance left in the deal and a 180% ROI. Not bad for a dilapidated building that nobody else wanted!
Work Involved in a Commercial to Residential HMO
In the not too distant future I’m sure Victoria will ask me to do a breakdown of our entire project spend similar to this one we did for Churchgate, a 9 bedroom office to residential conversion.
Until that day, I’ll provide an overview of some the main works we carried out here.
- Structural Issues – these have already been mentioned, but some of the major items we have to deal with were a back wall that needed rebuilding due to prolonged water damage; replacement of several steel beams between cellar/ground floor and ground/first floor which had been badly installed a long time ago; supporting a chimney breast which was levitating half way up the gable wall; replacing a cantilevered mezzanine floor our builder almost fell through.
- Roof – we had some major repair works to the roof which resulted in stripping it all back and replacing a lot of the slate. This did make it easy to add two skylights, but for the record conservation approved electric skylights with electric blinds are not cheap!
Windows – we needed to replace the single glazed windows throughout the building, but due to the conservation area we were in, these had to be double glazed timber sash windows. - Joists – at one point we could stand in the cellar and see sky if we looked up. The building was taken back to 4 walls and not much else. Replacing all of the joists was the right decision but added a chunk of time to our renovation budget as it stopped all other trades being on site.
- And everything else… – in addition to the bigger works, we obviously carried out a full refurb of everything else – new electrics (including a new 3 phase supply), new plumbing and central heating, enough joinery work to fell a small rainforest, kitchens, bathrooms, plastering, decoration, and so on.
Interior Design
As with all our projects, Victoria did the interior design. We usually tend to have one specific idea or theme in mind and then base the rest of the house around that.
In this instance, she really wanted a navy kitchen (Pinterest has a lot to answer for), but since she wasn’t able to find one she liked that fitted our budget we decided to use navy as the colour theme throughout the rest of the house instead.
The selection of images below inspired our design.
We stuck with our favourite shade of grey “Cornforth White” for the walls, and then chose “Stiffkey” for all the doors and windows (both from Farrow and Ball). The doors were definitely a bit marmite, with Victoria and the decorator in the “I love them” camp and everyone else involved in the project firmly in the “Victoria has lost her marbles” camp.
Now that the dust has settled I’ll admit they turned out great and am happy to hand over complete freedom on the design of all future projects to my better half.
The bulk of our furniture was supplied by Fusion Furniture Solutions who provided an exceptional service as always, and as with most of our projects our accessories came from Ikea, including the green sofa, artwork and faux plants.
If you’re interested in getting our shopping list of everything we buy to stock an HMO ready for housemates moving in, then you can download it by following the link below:
Watch our vlog to see us finishing up the last few bits of this project.
There are still a few bits to finish off including the HMO license application and refinancing the project, but with happy housemates in place and another healthy cashflow added to the mix, it’s already proving to be a great project for us.
To see some before & during photos of this project, visit our Instagram Hashtag Here.
2 Responses
Hi Mike and Victoria, great article as usual. I am interested in how do you fund the renovation costs in the short term before the refinance? Do you use your own money or use loans / investors? Emma
Hey Emma, thanks for the kind words! On this particular project it was a joint venture with 2 investors we have known for a while. They funded the deal, we sourced and managed it. This works pretty well for us where there’s enough cash flow to pay two parties.
In other cases we use our own funds (we contributed circa £20k to this one), use bridging finance or work with private investors for a fixed return vs giving away equity.
I think this would be another useful topic for a podcast episode!