Rental Coverage and ICR Explained

How the test works

A lender takes the expected monthly rent, applies a stress interest rate rather than your actual rate, and checks that the rent covers the stressed interest by a required margin. That margin is the interest coverage ratio, or ICR.

Typical ICRs are 125 per cent for a basic rate taxpayer or a limited company, 145 per cent for a higher rate taxpayer, and sometimes 160 per cent for additional rate taxpayers or HMOs. Stress rates are commonly set a couple of percentage points above the product rate, with lower stress rates applied to five-year fixed products.

A worked example

A property rents for 1,200 a month. The lender uses a 6 per cent stress rate and a 145 per cent ICR because you are a higher rate taxpayer.

Maximum stressed interest is 1,200 divided by 1.45, which is roughly 827 a month, or 9,931 a year. Divide that by 6 per cent and the maximum loan is around 165,500.

Change one variable and the answer moves sharply. At a 125 per cent ICR, the same rent supports around 192,000. On a five-year fix with a 5 per cent stress rate, it supports around 198,600. That is why product choice and lender choice, not just rate, decide how much you can raise.

What to do when the rent does not stack up

Practical levers, roughly in order of usefulness:

• Take a five-year fixed product, which most lenders stress at a lower rate
• Borrow through a limited company, where the ICR is usually 125 per cent regardless of your personal tax rate
• Increase the deposit to reduce the loan below the coverage ceiling
• Use a lender offering top slicing, which allows surplus personal income to support the shortfall
• Reconsider the rental estimate with evidence of comparable local rents for the valuer
• For an HMO or multi-unit block, use a lender that assesses total room income rather than a single AST rent

Where the rent figure comes from

The lender uses the valuer's rental assessment, not the agent's optimistic appraisal or your own view. If the valuer's figure comes in below expectation, the loan is cut accordingly.

Sending comparable evidence of local achieved rents with the application is a simple step that regularly protects the loan amount.