In this chapter, we consider the issue of how lenders judge your mortgage application with information about:
- How mortgage providers assess mortgage applications
- What a mortgage affordability check is
- The size of your mortgage
- Your credit report
- Boosting your credit rating
- Preparing for your mortgage application
- Whether mortgages are possible with a poor credit rating
- Sub-Prime or adverse credit mortgages
- Guarantor mortgages
How your credit rating can affect your mortgage application
This is still some confusion about how mortgage providers calculate how much money you can borrow for your home purchase so in this chapter we provide information about what factors they take into account. We explain what an affordability check entails and the importance of your credit rating. Do you have worries about your credit score? We give ways to improve your credit score before explaining what solutions there are for borrowers who have a low credit rating.
How do mortgage providers assess mortgage applications?
In the 1980s when applying for mortgages became more commonplace in the UK, mortgage providers used to multiply your annual salary by a certain factor such as 3 or 4 and the result was the amount that you were allowed to borrow for a home purchase. However, since the credit crunch of 2008 and the increase in property prices, lenders give equal weight to other factors and so the criteria for applying for a mortgage have become more complicated.
In general, financial institutions which offer mortgages will be looking at: your monthly outgoings and spending habits compared to your salary, the amount you want to borrow and the size of your deposit, your credit report and finally their in-house policy regulations (since mortgage providers do vary).
What is a mortgage affordability check?
A mortgage affordability check assesses whether you’ll be able to make your mortgage repayments by comparing how much money you earn compared to your monthly expenses (and spending habits). As well as earnings, they’ll also consider your employment history: how long you’ve been in your present job, whether you frequently change jobs, etc.
A mortgage affordability check assesses whether you’ll be able to make your mortgage repayments by comparing how much money you earn compared to your monthly expenses and spending habits.
Your spending habits will be broken down into different categories. Firstly, they will look at any other repayments you have especially for other financial products such as for personal loans, credit cards and so on. Then they’ll look at your essential expenses like the money you spend on utility bills, food, etc. and finally, there are non-essential living costs such as clothes, leisure activities (including going out) and holidays. All these will help your lender to build up a picture of what kind of spender you are and how much of a risk you represent as a borrower.
The size of your mortgage
How much money you’ll be able to borrow for a home purchase will depend on your affordability check as well as the size of your deposit as a percentage of the purchase price. The larger your deposit, the greater your share of your house and the less of a risk you are to mortgage lenders.
Questions on applying for a mortgage
Having a credit history in the UK is mandatory for a mortgage application to be approved. While personal loans and other credit lines may be granted with fewer restrictions, there aren’t any mortgage lenders in the UK that will not perform a credit check. Having no credit history can be as bad as having a bad credit report or low score, which would lead to the rejection of your application for a mortgage.
If you wish to apply for a mortgage in the UK, being a permanent resident is one of the basic requirements. You must have resided in the UK for 3 years. Additionally you must hold a valid UK bank account and have a permanent job in the United Kingdom. Some lenders may be satisfied if you have been employed for at least 3 months at the same company, while others may insist that you have been employed for longer before approving your mortgage.
Most mortgage lenders will use your income to calculate the amount of the mortgage that they can afford to give you. Most lenders will use an income multiple of four to five times your salary, but under the right circumstances, you may be offered a mortgage that is six times your salary.
Credit referencing agencies
Credit referencing agencies such as Equifax, Experian and Call Credit are privately-run companies which collect and collate data about people’s personal and financial details. This would include information about you personally (current address, whether you’re on the electoral roll, etc.); the length of your credit history; credit accounts you have/had; any financial links you have with someone else (such as a joint loan); the level of your outstanding debt; history of any missed payments or defaults including bankruptcies, County Court Judgements and Individual Voluntary Agreements and a record of any recent searches of your credit report.
The criteria for receiving a mortgage have been become stricter since 2008 and lenders now consider a number of factors rather than just looking at your salary.
A mortgage affordability check looks at your salary and employment history as well as examining your outgoings and spending habits.
The amount you’ll be lent depends on your affordability check and the size of your deposit since a larger deposit means less risk for the lender.
Credit referencing agencies collect and collate data about your personal details as well as your current and past financial history.
What is your credit score or credit rating?
Although credit referencing agencies may give you a score, this isn’t the same for every agency and it isn’t necessarily how your mortgage provider will calculate your score since they all have their own in-house (and confidential) system of evaluating would-be borrowers.
This score is only useful in that it shows how your past and present credit history shows your creditworthiness; what they’re trying to do is to predict your future behaviour as a borrower from previous financial transactions and commitments to see how much of a risk it would be for them to lend you money.
Checking your own credit rating
Even before you apply for a mortgage – and preferably once a year – you should get into the habit of checking your own credit file to make sure that all entries are correct. Errors can be made and need to be rectified as they could have an impact on any application you make for financial products, including your mortgage. Also, it’s a powerful deterrent against identity theft.
You should check the 3 main credit agencies (Equifax, Experian and Call Credit) since they may contain different information. This can be done easily and quickly online by paying a £2 fee (or signing up for a 28-day free trial offer).
If information in your credit record is wrong, you can challenge it; the agency has 28 days to remove it and mark the entry as ‘disputed information’. A notice of correction should be added to your file and if it isn’t, you can contact the Financial Ombudsman to make an official complaint.
What to do if you have a poor credit rating
If you check your credit file, you may be disappointed that you’ve been assessed with a low credit score. Don’t worry as there are a number of ways to improve your credit score so that your mortgage application is more likely to be successful. This isn’t something that can be done overnight; building up your credit rating takes time and persistence. You should start this process as soon as you start saving for your home deposit as it could take years rather than months. You don’t need to use pricey credit repair companies as you can do it by yourself. Here are some simple ways it can be done.
What’s a credit black-list?
Although many people talk about a credit black-list, there’s no such thing. Instead, mortgage lenders look at the whole picture of what your personal financial history tells them about you.
How long is it before a bankruptcy is removed from my credit record?
Bankruptcies, County Court Judgements and Individual Voluntary Agreements take 6 years to be removed from your credit file.
Will lenders consider the credit history of previous or present occupants at my address?
No. This is a myth. They’ll only be considered if you have a shared financial product with them. In some cases, this could be a shared energy bill if you’re in shared accommodation and considered part of a couple.
Are joint savings accounts seen as sharing a joint financial product?
No. Savings accounts aren’t recorded since this isn’t a financial product which concerns credit.
Boosting your credit rating
Registering for the electoral roll
Registering to vote is one of the simplest ways to improve your credit score. It can be done easily online and only requires your National Insurance number. Lenders prefer you to be registered to vote as it’s a way for them to confirm your identity (name and address). For the same reason, you should make sure that all your financial accounts have an up-to-date address or it could cause confusion when it comes to identity checks leading to a credit application being rejected.
Organising credit payments
You should never miss or delay any credit payments you have to make (even by a day) as this will show up immediately on your credit record. Being late once or twice may not be judged so harshly over the space of a couple of years compared to one in the 12 months before you apply for your mortgage.
If you’re the kind of person who finds it difficult to keep on top of their financial commitments, it might be a good idea to set up a direct debit or standing order so that all bills and repayments are made automatically.
Your credit score or credit rating is an indication of your creditworthiness and how big a risk you represent as a borrower considering your past and present credit history.
You should check your credit file at the 3 main credit referencing agencies once a year in order to correct errors and to safeguard against identity theft.
There are a number of ways to build up your credit score but it takes time.
Registering for the electoral roll and being on time with your credit payments and bills are two of the ways to boost your credit rating.
Joint financial products
If you enter into a financial agreement with someone else, then their credit files may be accessed when deciding on your creditworthiness. This probably won’t be a problem if it’s your current partner but has caused difficulties in the past for people who have been cross-linked with former flat-mates or past partners. If your credit file shows a link to someone else, you can ask the credit reporting agencies for a notice of disassociation but any financial links you have with this person must have been dissolved. For example, the joint account has been closed or the joint loan paid off.
Frequent credit applications
Every time you apply for credit, this credit enquiry leaves a ‘footprint’ in your file which can be seen by subsequent lenders. These credit enquiries are simply recorded but there’s no further information about why the search was made or whether your application was accepted or rejected. Too many searches over a short period of time might make lenders wary as they give the impression that you were desperate for credit and undermine any confidence they’ll have in you. You should limit and space out your need for credit searches so there aren’t more than one or two a year.
Every time you apply for credit, this credit enquiry leaves a ‘footprint’ in your file which can be seen by subsequent lenders.
Unused accounts and available credit
The general accepted viewpoint about improving your credit rating is to close down any unused accounts. However, don’t close down your oldest account if it means that you’re effectively reducing your credit history. The other thing to bear in mind is that lenders are less concerned with your access to credit (for example, how many credit cards you have) and more concerned with how much you’ve used that credit (the percentage of your credit capacity you’re using). Quite simply, someone who’s used 30% of their total available credit is less risky than someone who’s used it all.
Preparing for your mortgage application
Now that we’ve examined ways of boosting your credit score, what factors will increase your chances of having your mortgage application accepted?
In the year before your application, you should try to avoid opening new lines of credit and/or triggering searches of your credit file. Your need to save for a deposit has probably meant that during this period, you’ve kept careful watch of your spending habits. Try to make sure that there’s also a surplus in your account at the end of the month as it shows mortgage providers that you’re a careful spender and able to live on your salary.
During your mortgage application, the use of your credit cards will be scrutinised. With the exception of when you’re on holiday abroad, you should avoid using your credit card to make cash withdrawals. Not only is it expensive but it also reflects poor money management skills on your behalf.
It may also be harder for you to get a mortgage if you’ve borrowed a payday loan in the past year. Sara Williams from Debt Camel guesses that post the coronavirus pandemic, mortgage lenders are now being more careful not to lend to people who’ve used payday loans in the past 2 years. It’s wise to avoid direct poor credit lenders as much as possible anyway as they charge very high interest rates.
Finally, if possible, you should try to reduce the amount of your outstanding debts so that ideally it’s between 10-30% of your credit capacity and preferably not 50% or over.
If you share a financial product with someone else, their file can be accessed as part of a check of your creditworthiness.
Frequent requests for credit checks should be avoided as it gives the impression you’re desperate for lines of credit.
Lenders are often more concerned about your total use of credit rather than its availability so unused accounts shouldn’t necessarily be closed down.
In the year before your mortgage application, there are some ways to change your spending habits which increase your chances of having your mortgage approved.
Are mortgages possible with a bad credit rating?
It is possible to get a mortgage with a poor credit rating although you’ll probably have to use a specialised lender rather than one of the High Street financial institutions. It might be worth thinking about using a mortgage broker or an independent financial adviser who will have a better idea of which lenders offer the best deals in your situation.
Although mortgages are available for people with a history of bad credit, it might be better in the long-term to wait a few years until you’re able to improve your credit score. If you feel you can’t wait, there are mortgages for your situation. Let’s look at sub-prime (or adverse credit) and guarantor mortgages: what they are and how they differ from other mortgages.
How much did sub-prime mortgages cost financial institutions in the UK in 2008?
It’s estimated that the 8 biggest High Street lenders lost £12 billion on sub-prime mortgages in the credit crunch.
How many people have problems in the UK with their credit rating?
It’s estimated that around 2.6 million people in the UK have problems with a poor credit rating.
How much higher is the interest rate for sub-prime mortgages?
The interest rate can be around 4 times the rate offered by other mortgage providers.
Which interest rate do sub-prime mortgages use?
Instead of using the Bank of England Base Rate or the lender’s SVR (Standard Variable Rate), sub-prime mortgage lenders often use the LIBOR (London Inter Bank Offered Rate), which is the rate used by banks when they lend to each other.
Sub-prime or adverse credit mortgages
Blamed for the 2008 credit crunch (especially in the USA), sub-prime mortgages are given to borrowers who are considered a risk in light of their past credit history. They work the same as other standard capital repayment mortgages with the difference that you’ll be expected to give a larger deposit (around 25-30% is usual) and the interest rates tend to be much higher to cover the increased risk taken on by the borrower.
It’s perfectly possible to re-mortgage once you’ve built up your credit score after a couple of years and have increased your equity in the property. However, remember that re-mortgaging to get a better deal would entail going through the mortgage application all over again. The main drawback is that you’d need to pay the fees to the lender again so balance this against how much you’d save on your monthly repayments.
Guarantor mortgages are when a family member (usually a parent or grandparent) put up their property or savings as security for your mortgage. Although they won’t be named on the title deeds of your property, your mortgage provider will hold a charge on their property.
Mortgage providers will only accept someone to act in this way if they hold at least 30% equity in their own property, have a strong credit record, have a high enough income to cover your repayments if you default and there’s proof that they’ve received independent advice before agreeing to act as a guarantor.
This type of mortgage is ideal if you have a poor credit score but it is something you should think very carefully about on both sides. If you default on your repayments, your guarantor is liable and if things go wrong, they could be risking their home or their savings. A repossession will have an impact on their credit score as well as your own.