That’s only a small factor in a mortgage application though. The most weight is given to your ability to afford the repayments. What your past says about you isn’t going to paint the same picture as your most recent bank statements.
The first stage of a mortgage application is an affordability assessment. As a mortgage affordability rule of thumb, the Homeowners Alliance advise that no higher than “35 per cent of post-tax income should go on mortgage payments”.
For that reason, it’s best that before approaching a lender, you - and your advisor if you’re working with someone - know exactly what comes in and where it goes. That’s best done with budget planning. It’s not unusual to find yourself sitting at the last week before the monthly salary gets paid into your bank account wondering where your last wages went.
That’s what lenders will want to know and they’ll sit up and take notice if you’re regularly in the red.
To understand your affordability assessment, all it really is about is how you manage the money you do have.
For easier understanding, it can help to break things down into categories of expenses:
Those three categories above are listed in order of priority. Your committed expenses are not optional. Your living expenses, there’s probably a few cost saving tips you could try to bring those down. The lifestyle expenses are what you’re paying for that’s just to keep up your quality of life. Nothing that’s a compulsory monthly expense and you could lose it from your expenses if need be. Like dropping a gym membership and taking up jogging instead.
When you apply for a mortgage, supporting documentation will be required. Often that’s three to six months of bank statements. Knowing that, it makes sense that you would pay attention to what shows on those bank statements in the run up to the time you submit your mortgage application.
Some areas of your spending, you can control, while others, you just can’t. Where you can though, you should, especially if it means your bank statements showing a bigger gap between your income and outgoings. That’s a sign of more disposable income and it’s where the second and third category of expenses comes into play.
For those looking to remortgage an interest only mortgage, you will need to account for all repayment vehicles as they are committed expenses because you need to repay the capital on the home loan. When any lender asks you about committed expenditure, you definitely want your repayment vehicles listed in this category as they’re not optional and do need paid. Also, if you're on leasehold, include your ground rent costs in this category.
If you have difficulty proving your income we would like to hear from you:
This is what most people will include as part of a standard budget. As you’ll see from the rest of the expenses listed on this page though, they’re far from all you have.
This category of expenses includes:
If you find your cost of living is high, review where you’re spending money because there’s a chance that there’s items in this category that could reduce your cost of living.
The lifestyle costs are where you can make cuts. Social costs could be reduced by cutting back on online food orders, cinema tickets, or wining and dining guests.
If you holiday abroad every year and perhaps save £50 per month to pay for the holiday, that could be cut back to a cheaper holiday elsewhere, translating to less monthly savings. Lenders want to see backdated accounts usually for six months so if getting a mortgage means cutting back what goes towards the holiday pot to get a mortgage approved, it’s a trade-off worth considering.
Special occasions are what many people fail to account for. All those Birthdays that spring up and you run out and by a gift, or drop a £20 note into a card, same for anniversaries. The more social a life you have, the more occasions will spring up when you’re spending on other people. If you really want to get deep into managing your personal finances, budget for Christmas, birthdays, and anniversaries that you buy gifts for throughout the year. It can add up to a big expense.
Add on to that any retirement gifts you buy for co-workers, new births to the family and your friends, and the odd get well soon bunch of flowers from the local florists, there’s even more expense. Naturally, these don’t all come at once, but if you’ve a bunch of birthdays and anniversaries spring up that see you spend a lot on gifts, it’s going to indicate to a lender that you have a high social life expense, when realistically, that may not be the case and instead just be an expensive time of the year for you personally.
Charities are the other thing that a lot of people have committed to because charity boxes have been swapped for Direct Debit mandates. If you’ve committed to charitable donations, you definitely want to be keeping your own finances afloat and not using your overdraft regularly.
When you plan to apply for a mortgage, many people believe the focus should be on credit reports because they are always checked. The truth is that while it is checked, it’s not top of a lenders priority list. They only use the information on your credit reports. The most weight is given to your personal financial situation. That’s how you manage your personal finances so they can lend to you knowing you can afford the repayments.
For your own financial planning, review your bank statements personally and list your expenses into the three categories outlined above, Committed, Living and Lifestyle. Your committed costs, you can’t do much about. Living expenses, you can and Lifestyle costs can definitely be adjusted.
From the moment you make the decision to buy a property, also make a commitment to review your finances because the more disposable income your bank statements show, the better a chance you’ll have of passing the affordability assessment.