When you start looking for a property, figuring out how much you can afford to borrow on a mortgage should be your first starting point.
Unless you are in the fortunate position of being a wealthy cash buyer, your spending limits will determine not only what property you can afford, but also its location. This article explains the main points of mortgage affordability.
How much can you borrow?
The amount of mortgage you can get depends on how much you earn, save, and spend.
Any savings or other cash that you have accumulated that can be used to buy real estate is called collateral. The amount of property already owned by the existing homeowner (“equity”) can also be counted towards the deposit the next time he / she moves out of the house.
To secure a mortgage, whether you are a first-time buyer or an experienced home owner, most lenders require potential borrowers to make at least a small deposit. Let’s say 5% of the purchase price.
The amount you borrow versus the value of the property is called the loan-to-value ratio, or LTV for short. This figure is expressed as a percentage. A deposit of 10% will require the borrower to take out a mortgage with LTV 90% in order to proceed with the real estate transaction.
The more a buyer can deposit, the more flexibility and higher interest rates lenders such as banks and building societies can offer.
When it comes to profit, lenders use an “income multiplier” to calculate the loan. They add up the total cumulative salary of the applicants and multiply it by a certain number to get the maximum mortgage figure.
Income 4.5 times the total wage is the norm. For example, a couple with a combined household income of £ 80,000 could potentially borrow £ 360,000.
But this is more a rule of thumb than an absolute rule, because different mortgage lenders will offer different amounts in the form of a loan.
Self-employed workers face a greater challenge in terms of proving their income, as their employment status is considered less secure.
If you are self-employed, the lender may require proof of income for three years. Details of your self-assessment procedures for tax purposes are also required, as well as document SA302. The latter refers to the confirmation of income provided by Her Majesty’s Tax and Customs Service…
Even with a large multiple of income and a decent deposit, the amount you can borrow will further depend on your spending habits and any outstanding debts. In other words, what is actually available every month to pay off your mortgage.
This is called an availability check, and it can decrease or increase your borrowing amount depending on how strict the lender’s check is.
Potential mortgage applicants must provide a history of bank statements showing how they are spending their money. This makes it clear to the lender if potential borrowers can afford to pay the mortgage according to their lifestyle.
This includes considering how much you spend on your monthly bills, including electricity, broadband, and cell phone, as well as other recurring expenses like transportation and childcare. In addition, you may be asked how much you spend on holidays and dinners.
Lenders must also apply a so-called “stress test”. It tests the financial strength of the client and looks not only at what borrowers can afford now, but also at what happens if economic conditions turn against them in the future. For example, if their mortgage payments rise due to higher interest rates.
Stamp duty and legal fees
People sometimes forget about the impact of stamp duty and legal fees when they start looking for a home. It is very important that they are taken into account in the calculations, because accounts can reach thousands of pounds, which could potentially damage the deposit and therefore affect the size of the loan.
Stamp duty operates differently in each of the deformed countries, but is essentially linked to the purchase price of the property in question. In England this is called the land stamp tax, and in Wales it is called the land transaction tax.
Tax payment is payable unless the transaction amount falls within the so-called zero rate range. At the time of writing, slightly different stamp duty rules apply to new buyers compared to owners already on the property’s staircase.
As home prices in London and the South East are much higher than the rest of the UK, buyers in the area often face higher stamp duty rates. Find out how much you might need to pay using Stamp duty Land tax calculator.
What to do next?
Preparation is key, and you can turn to the services of a mortgage broker for help with this.
They can guide you through availability checks, lending criteria of various banks and building societies, and the types of mortgages available. Some brokers charge a fee for their services, while others are free and charge lenders a commission instead. Ask about the commission model the broker uses at the start of any meeting.
To understand what is possible, use an online mortgage calculator. Most lenders have it on their websites. Just because you can borrow a lot of money doesn’t always mean you should.
All potential borrowers are also advised to check their credit reports before applying for a mortgage. Every adult with a history of borrowing has a credit file that lenders refer to to judge whether you are the safe choice for a home loan. Use a referral agency such as Experian, Equifax, or TransUnion to access your file.
As you get closer to finding a home, consider getting a “mortgage in principle,” also called a “principle agreement”. This is where you give the lender a more detailed picture of your finances. In return, you will get some idea of how much you can borrow.
This does not guarantee you a deal, but it does give you reasonable hopes of getting a mortgage of this size. Ultimately, the goal of potential borrowers is to save money, draw up a budget and, if necessary, seek expert advice.