Obtaining a mortgage as a contractor can be a hassle. Learn about how this has changed and your options in this guide.
Getting a mortgage as a contractor has become easier. A mortgage is likely to be the biggest financial commitment that you will ever enter in to. The process can be long and daunting, but one thing it does not have to be is difficult, we can help with this. Before arranging your mortgage, there are many questions that you will want to answer. Of course, you can get a mortgage broker on board to do the work for you, but it will be up to you to make the decisions.
- How much can I realistically afford?
- What type of mortgage should I choose?
- How does the process work?
- What obstacles am I likely to come across as a contractor?
These are just some of the questions that you will want to answer.
We have created this simple guide to help you understand everything you need to know about obtaining a mortgage as a contractor. We hope that with this guide and advice from a broker, you will be in a confident position to make the right decisions for you.
Our guide explains the different schemes available.
What’s in the guide?
- Getting a mortgage as a contractor
- Types of mortgages
- How much could you borrow?
- What deposit will you need?
- Types of mortgage products available
- Tips to make the process easier
Getting a mortgage as a contractor
When lenders assess a contractor for mortgage affordability without specialist underwriting procedures in place, they will want to verify income by seeing two to three years’ worth of accounts or tax returns. As many lenders have not kept up with changes in the labour market, their criteria will often fail to accommodate the growing ranks of contractors.
Umbrella company contractors will find that many of their expenses will not be considered when calculating income; if the lender understands the concept of an umbrella company at all. Limited company contractors will experience a similar problem, as any money retained in the company, for tax purposes, will also not be considered. Both methods of operating are likely to lead to a shortfall in borrowing.
Generally, banks and building societies only lend to those who are considered a low risk, and contractors are regarded as high risk. The reason being is that lenders worry that these individuals will struggle to afford their monthly payments when their current contract comes to an end.
Types of mortgages
First Time Buyer
Getting on to the property ladder should be an exciting time for individuals. The reality is that many lenders have become increasingly strict about who they will lend to, and as a result getting a home can feel like a distant dream.
There is no point starting your property search until you have worked out your budget. Lenders will look at your income and your outgoings, including any existing credit arrangements.
If you do happen to have any loans or credit cards, it is worth paying some of the debt off before applying for a mortgage if you are in a position to, in order to help boost your credit rating. Keeping on top of any payments will show the lender that you are a responsible borrower.
Next you will have to ensure you have enough money saved up to cover your deposit. he more you have to put down as a deposit, the more products and options you will have available to you. It is possible to secure a mortgage with a 5% deposit; however, you will have access to more competitive products if you have a 10% deposit or more.
Help to Buy
There are also goverment schemes available that help first time buyer's get on the property ladder. The Help to Buy intiative has two distinct offerings. The first scheme involves the government supplying up to 20% deposit, while the borrower would contribute 5%. This enables first time buyers to access more competitive rates. The 20% from the government still needs to be repaid, but it is interest frr for 5 years.
The second scheme allows first time buyers to purchase a property with a deposit as little as 5%. The government provides the lender with a guarantee on part of the loan.
Next Time Buyer
If you are planning on relocating, the first thing you should do is look at your existing mortgage to check that you are allowed to move without incurring any penalties. If you have already reverted to your lender’s Standard Variable Rate (SVR) you should be able to switch to another scheme or provider.
If you're upsizing, you might be planning on increasing your mortgage to cover the new home. If this is the case you must remember that in order to do this you will have to apply for the mortgage in the same way you did as a first time buyer. Lendning criteria has generally become much stricter, so althought you circumstances have not changed, you might struggle to obtain a mortgage. If that was not bad enough, contractors find it even harder to secure the level of funding they want.
A specialist broker can look at your circumstances and establish the most cost-effective option to suit your position and lifestyle.
Remortgaging is not something that everyone considers, but in most circumstances the process is quick and straightforward and can potentially save you a lot of money. In addition to providing the same documents that you presented when you originally took out a mortgage, you will need a mortgage settlement figure from your existing lender. The property will be assessed by way of valuation by the new lender to confirm the value of the property and that it is suitable security to lend against.
If you are stuck on an existing scheme, it is wise to research the penalties you could incur if you were to switch lenders before the scheme comes to an end. A specialist broker can undertake a mortgage review and establish whether there is a more cost-effective product available, while taking in to account your circumstances as a contractor.
Buy to Let
Buy to let mortgages are a popular investment strategy for contractors in the UK. There are many lenders that offer mortgages specifically for the buy to let market. Most require at least a 25% deposit.
If you are thinking about buying a property to let, there are a number of things that need to be considered, including but not limited to; tenants, condition, location, rent and maintenance.
Second Charge Mortgages
Second Charge Mortgages or Secured Loans are quickly becoming part of mainstream lending, as more homeowners than ever before look for an alternative to remortgaging or taking out a personal loan. They use the borrower's home as security, helping them to raise funds against their property for a wide range of purposes. They are often used to raise additional funding when homeowner's existing lender will not, or cannot, release additional funds.
From raising funds for home improvements, or for the purpose of buying a new vehicle through to paying for a wedding, injecting cash into a business, paying a tax bill or even covering University fees, there are a huge amount of reasons why people decide to take out a Second Charge Mortgages/Secured Loan.
How much could you borrow?
In the past, most lenders worked out what they would lend you by typically multiplying your sole or joint income by a fixed number. This is now not the case.
Currently, most lenders look at a full financial picture, including:
- Your monthly pay
- Income from investments
- Income from pensions
- Income from child maintenance or grants
They will also look at your available credit, how much your disposable income amount each month and other bills/debts etc.
This information will allow a lender to develop a good understanding of how much you will realistically be able to pay back each month, thereby helping them to calculate how much they will be willing to let you borrow. Make sure your spending habits are allowing you to live well within your means, and if you're able to pay off any unsecured loans and credit cards then do so, as they can impact your borrowing potential.
Using an online mortgage calculator can be a great tool with your initial mortgage planning. with an estimation of how much you could borrow, you can start to plan your deposit amount and also understand if you need to continue saving, understand your monthly repayment amount, ensure you have enough aside to cover any fees and potential property can become much simpler.
What deposit will you need?
To allow lenders to consider loaning you money, you’ll need a substantial amount of up-front cash: a deposit. A greater deposit means you will have access to better interest rates. However, most mortgages need at least 5% of the property value, which for some, can be a substantial amount of money. The money may come from hard work and saving, money from parents/grandparents, or even from receiving an inheritance. Either way the larger the deposit, the more access to competitive rates you will have. This, in turn, means lower monthly payments and a cheaper mortgage overall. However, obtaining that first deposit can be hard for some.
Schemes to help with deposits
In recent years, there have been a few schemes set up by the government that can help you to achieve your deposit goals.
Help to Buy ISA
This was set up by the government in December 2015. People over 16 years of age can earn interest of up to 4% on money in the ISA and get 25% added on top when they withdraw the money to use it for a mortgage deposit.
The Help to Buy ISA is available for new savers until 30th November 2019, however you can still keep saving in your account if you opened it before then. You must claim your bonus by the 1st December 2030
Help to Buy Equity Loan
Help to Buy Equity Loans are open to both first-time buyers and home movers on new build homes in England. Once you have acquired a 5% deposit, the government will add on a loan of up to 20%, meaning that you’ll have a total of a 25% deposit. No fees will be applied for the first 5 years of owning your home. In the sixth year, a charge of 1.75% of the loans value will be applied.
Beyond this, the fees will increase each year in line with the Retail Price Index (RPI). In November 2015, the Government announced an extension of the initiative up to 2021.
Help to Buy London Equity Loan
Due to the increased property prices in London, Help to Buy will lend you up to 40% of the cost of your new home up to the value of £600,000 in all London boroughs. Along with your
deposit of 5%, this will give borrowers a 45% deposit to purchase a new build property.
As with the standard help to buy equity loan no fees will be applied for the first 5 years of owning your home.
Types of mortgage products available
Before you begin the process of finding a mortgage, you will need to consider which type of mortgage is right for you.
Repayment or interest only?
Repayment mortgage options guarantee that you are paying off some of your loan every month whereas Interest-only mortgages just pay the interest on the loan and none of the original loan. Most lenders will not usually offer interest only schemes unless the LTV (Loan-to-Value) ratio is below 50% or you are looking at an investment Buy to Let loan.
What type of deal?
As well as deciding how to repay your mortgage, you also need to think about various types of mortgage products available. Usually, lenders offer new customers special low-interest deals, also known as an incentive product, for a set number of years to attract them, but many include a range of different advantages and disadvantages.
Gives you the security of knowing that regardless of what happens in the market, your payments and interest will stay the same. However, if rates fall, your payments will not.
This rate allows payments to fluctuate (higher or lower) depending on factors such as the UK economy and the lender’s appetite to retain existing borrowers.
This rate tracks another rate indicator, usually the Bank of England Base Rate. Although this is a transparent indicator and not influenced by the lender, if interest rates change dramatically so will your mortgage payments.
Standard Variable Rates
This is the rate set by the lender. After an initial product period, you would normally revert to this rate and it will be higher than the incentive product you were on previously.
This product offers a discount off the Standard Variable Rate for an agreed period of time, usually 2 to 3 years.
Once you have decided on your mortgage product, you then have to decide whether or not you want your mortgage to be flexible. Some of the options available on a flexible mortgage allow you to increase or decrease the amount you pay each month.
For example, if you receive a sum of money you can choose to either pay this as a lump sum off your mortgage or as a regular additional payment, allowing you to decrease your overall balance and saving you on interest in return.
If you need to, you can also underpay or agree a payment holiday for a set period with your lender.
An offset mortgage is linked to one, or sometimes multiple, bank or savings accounts, and allows you to use your additional savings to decrease your interest payments. For a standard mortgage, your interest payments are calculated based on the total amount you owe. With an offset deal, you deposit your savings into an account that is linked to your mortgage. These savings are deducted from amount you owe before interest is calculated – so you only pay interest on the difference.
Tips to make the process easier
Understand your financial position
First things' first, you'll need to get a good understanding as to whether you'll be able to obtain a mortgage and, if so, how much you'll be able to borrow to finance your property. Speak to a broker, who will be able to advise you based on your current financial position.
You’ll also need to make sure you understand the costs involved in buying a property, as well as how much you’ll need to save for a deposit.
Understand what lenders look for in applicants
All too often, potential homeowners assume that they will not be accepted for a mortgage and put their plans on hold before they’ve even started the application process.
When any lender approves a mortgage, they take on a certain level of risk. After all, there’s always a chance that a borrower will default on their repayments. To minimise that risk and ensure they only lend responsibly, lenders must undertake an assessment in order to decide whether or not it is a risk worth taking.
A minimum deposit of 5% of the property value will be required, subject to criteria and credit profile.
Plus, you’ll need to allow for additional costs involved when purchasing a property such as stamp duty, solicitor fees, mortgage product/application fees, property surveyor fees. assessment in order to decide whether or not it is a risk worth taking.
Your credit history will have an impact on your ability to secure a mortgage. This will tell a lender how likely you are to keep up with your payments; considering factors such as previous loans, if you've ever defaulted on a loan and if you have any CCJs (County Court Judgements). Lenders will look at this history and assess the risk of you defaulting on the loan they're considering for you.
If you have limited history or have never held open credit in the past this could also have an impact on your ability to secure a mortgage.
Get your finances in order
If you have any significant credit card debt or personal loans, this could impact upon your ability to pass an affordability test, particularly credit card debts with high levels of interest. Try and clear as much of your existing debt as possible before you start to apply for a mortgage.
Look carefully at your outgoings and identify any areas where you could cut back. That will bring your outgoings down, but it will also show that you're careful with your money and, of course, help you save money, which is always beneficial!
Do your homework
With the increasing number of banks and other mortgage lenders in the UK market, there are potentially thousands of mortgage deals to choose from; so ensure you take time to understand the different options. Using a mortgage broker can help you determine the most suitable options.
Moreover, if you’re self-employed or contracting, lenders do not always take a holistic view of your income or borrowing potential and a specialist broker can help you present your case in the right way, to secure the best deal for you.
Get your paperwork together
Being able to provide supporting documentation in a timely manner is critical to a successful application. Typical requirements include; ID and proof of address; so, ensure your passport and driving license is correct and in date.
Income evidence and proof of financial readiness are also key, and you will likely need to provide a combination of the following depending on your employment setup: P60, 3 months of bank statements, payslips or 2-3 years of company accounts/SA302's (or the online equivalent)
If you are a contractor, make sure your CV is up to date as it may be used to prove your skills and experience. You will also need to obtain a copy of your current contract as this will be used to demonstrate your income. Using both these documents should avoid any issues to do with affordability.
Use a specialist broker
The truth is that most lenders have little understanding about the contracting market, and as a result, their standardised lending procedures do not accommodate contractors. We have bespoke underwriting arrangements with a comprehensive range of lenders, enabling us to secure mortgage funding often based on a multiple of your contract rate alone.
Once you’ve got the legal and financial side of things in order, it’s time to start the exciting part – the property search! Consider the areas you’d like to buy your home in, the type of property you’re looking for, and any other requirements you have.
When it comes to viewings, it's always a good idea to visit several potential properties as this will help you start narrowing down the search, giving you a better idea of what you want and where.
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