Before the credit crunch in 2007, banks would regularly hand out mortgages to people with no savings. These loans were worth 100% or more of a property’s value. Then the recession hit, mortgage funding dried up and house prices fell, leaving thousands of people owing more to the bank than their house was worth. Suddenly 100% mortgages didn’t seem such a great idea after all. These days, banks are much more cautious about lending. Most will insist that you have a deposit worth at least 10% of the value of the property you’re buying. So if you are buying a house for £200,000, you’ll need to put down at least £20,000.
The golden rule with mortgages is to save as large a deposit as possible. The larger your deposit, the cheaper your mortgage rate will be. Mortgages are categorised according to their loan-to-value (LTV). This means the percentage of the mortgage as a value of the property. So if you have a 10% deposit, you will need a 90% LTV mortgage. Banks tend to have bands where mortgage rates become cheaper. They get cheaper like this because the more equity you have, the lower risk you are to the bank if your house loses its value. Generally speaking:
Those with a 10% deposit (90% LTV) will be charged the most
Those with 25% (75% LTV) will be charged less, and
Those with 40% (60% LTV) will be charged the least.
You need to save as much as possible, but be realistic. Here are some steps to take to get an idea of how much you’ll need to save:
Go to a property website, such as RightMove, to research how much your ideal home will cost.
Use a mortgage calculator to see roughly how much someone on your salary can borrow. Add in your partner's salary too, if you are planning to buy together.
If your sums show you can borrow less than you had expected, you may have to make compromises and aim for a smaller property or one further away from the station, for example. Or speak to a broker to find out if they could help you get a better mortgage. Mortgage brokers will know which lenders are offering the highest earnings multiplications. So, your calculations may be based on you being able to borrow three times earnings, but a broker may be able to get you five times earnings.
Lenders will refer to your credit score when deciding whether to provide you with a mortgage. It is important to check your credit report regularly to ensure that you appear credit-worthy to lenders. An easy way to do this is to register for the free TotallyMoney Credit Report.
Remember, no matter how much you can borrow, you will need to save up at least 10% of the value of the house you want to buy.
Buying a house is an expensive process so when working out what you can afford, factor in the cost of stamp duty (this calculator will help), solicitors' fees and survey costs.
Now you know how much you need to save in order to buy your ideal home, it's time to work out the best way to save.
Get the most from your savings with an ISA. These savings accounts protect your money from the taxman. So, rather than having to hand over up to 50% of your interest earnings to HMRC you get to keep it all for yourself. So, you money can grow a lot faster. You can find the best ISA rates here.
Set up a standing order from your current account into your ISA every month on the day after you get paid. This means the same amount will leave your account every month and you’ll soon get used to not having it.
The downside to a cash ISA is you can only save up to £5,760 a year into one. If you have put this much in a cash ISA already, your next best option is a regular savings account. These often offer the highest interest rates, but usually come with their own restrictions, such as limits on withdrawals and a minimum amount paid in every month. Beware the BonusTrap Whether you are saving into an Isa, regular savings account or just a bog standard e-saver, keep a close eye on the interest rate. Most savings accounts now have a bonus that lasts around twelve months, after which the interest rate drops like a stone.
Don’t be tempted to put all your savings in the stock market in the hope of generating higher returns. Funds and shares can be a good option for long-term investments, but stock markets can go up as well as down, so you need to invest for a long time to smooth out the bumps and dips. Invest your house deposit for a couple of years and you could see your money wiped out just at the point when you intended to use it.
However you decide to save, you need to set yourself a realistic monthly target. It helps to draw up a list of your incomings and outgoings beforehand and perhaps target a few areas where you could cut back. You can use this budget calculator to see exactly where all your money goes. Making your own sandwiches instead of buying lunch every day could save you £100 a month, for example. It may also be time to cancel that little-used gym membership.
Most lenders insist on a deposit of at least 10% of the property’s value. Nationwide is a rare exception, although eligibility is complicated. The building society has a scheme called Save To Buy where you must save every month for six months in order to qualify for a mortgage with only a 5% deposit. It’s worth pointing out that at the end of the six months, you are not guaranteed to be accepted for a mortgage – you will still have to pass lending checks. Also, these 95% mortgages are only available through the Save to Buy scheme – you can’t just save a 5% deposit elsewhere. Save to Buy is a good option for those with small savings desperate to get on the property ladder. But interest rates will be relatively high and it can be risky buying with such a small deposit. Bear in mind that other lenders will require at least a 10% deposit before you can move house or switch to a cheaper deal. This means you may be stuck with Nationwide for some years while you build up your equity, especially if your house falls in value.
Always think of your deposit as a percentage of the property you want to buy. The larger the percentage, the cheaper the interest rate and the easier you will find it to get a mortgage. You will need a bare minimum of a 10% deposit to get a mortgage with most banks and building societies. But beware these will be the most expensive mortgages rates because you will be viewed as higher risk. You will need to pass particularly tough affordability and credit checks. You should also be aware that it will be hard for you to remortgage if your property falls in value.
This is a comfortable cushion of equity which means banks will be more keen to do business with you. A deposit this size should enable you to access a wider range of mortgages at cheaper rates, assuming you still pass the normal credit and employment checks. Remember that every extra 5% deposit you can save will make a difference to your interest rate. So even a 15% or 20% deposit, for example, is better than 10% deposit. Equally, a 30% deposit is even better.
This will give you the widest choice of the very cheapest mortgages available. Banks will see you as low-risk because you will already have a significant chunk of equity in the property, making the bank less exposed to house price falls.