What is a mortgage and how does it work?
A mortgage is a loan used for the purchase of land or property. The land or property purchased is used as security for the repayment of the loan and can be repossessed if the repayments are not made. A typical mortgage is for a 25-year term but this period can be shorter or longer.
Who can get a mortgage?
If you are aged 18 or over you can obtain a mortgage providing you have saved a deposit, have a good credit history and are planning to purchase a mortgageable property. Not every property is mortgageable due to being uninhabitable, of non-standard construction or with major structural problems.
How much can I afford to borrow with a mortgage?
The amount you will be able to borrow with a mortgage will depend on your income, the property you're intending to buy and how much deposit you have saved. The amount that you will be able to borrow, the mortgage costs and monthly repayments will vary between lenders with the best deals available to those with a larger deposit.
When looking at the amount you can borrow with a mortgage you need to be aware of your total outgoings such as bills, insurance, and maintenance costs so as not to overstretch yourself financially and then struggle to make your repayments.
Where can you get a mortgage?
Most banks and building societies will arrange a mortgage and you can apply directly to a lender or use the services of a mortgage broker. We have teamed up with Habito, an online mortgage broker and created our comprehensive Mortgage Best Buy Table to help you source the best mortgage for your circumstances.
If you are a first-time buyer we have also created a useful guide - First-time buyer guide - everything you need to know about buying your first home
Mortgage types
Fixed-rate mortgage
A fixed-rate mortgage is a product where the interest rate charged remains the same for a period of time, typically 2 to 5 years which can help when budgeting your finances over the medium term. At the end of the fixed-rate term, the interest rate will revert to the lender's current variable rate unless you change to a new fixed-rate product with your current lender or remortgage with a new lender.
Variable-rate mortgage
A variable-rate mortgage is a product where the interest rate may change at any time during the term of your mortgage making budgeting more difficult. As you are not tied to a set term you can remortgage at any time without incurring a penalty.
Discount mortgage
A discount mortgage is a product where the rate of interest charged is at a discount to the lender's standard variable rate. This discount will be applied for a limited period, typically 2 or 3 years.
Tracker mortgage
A tracker mortgage is a product where the interest rate charged will move in line with another interest rate, typically the Bank of England base rate. The rate charged will be higher than the tracked rate and will move in line with it.
Capped rate mortgage
A capped rate mortgage is a product where the interest rate charged moves in line with the lender's standard variable rate but with the caveat that this interest rate cannot rise above a certain level.
Offset mortgage
An offset mortgage links your mortgage to a savings or current account so your balance on the other accounts will be notionally deducted from your mortgage balance and you only pay interest on the difference. The mortgage payments are still made every month as usual, so in theory, you should pay off your mortgage quicker.
What do lenders look for when applying for a mortgage?
Property
The type of property you are looking to purchase may affect your eligibility for a mortgage. If the property is in poor condition, leasehold or maybe a flat above commercial premises, it could make it more difficult to obtain a mortgage.
Deposit
The amount of deposit you have saved will influence not only the size of the mortgage you may be granted but also the mortgage products available. A minimum deposit of 5% of the property price is currently required to obtain a mortgage but the larger the deposit the better.
Size of loan
How much you can borrow with a mortgage will depend on a number of factors including your income, employment status and credit history. The less you want to borrow as a percentage of the property price, known as the loan-to-value ratio or LTV, the more likely you are to be granted a mortgage.
Income
Lenders will want to see proof of your income. Any income you receive must be proved using, either payslips or up to 3 years of recent accounts if you are self-employed or own a business. Overtime or bonus payments may be used by the lender if they are regular and provable.
Employment
Lenders will want proof that you are in regular employment or, if you are self-employed, will need sight of your recent accounts. If you are working on a contract basis or are freelance, then further checks on the sustainability of this work will probably be required.
Credit rating
Every lender will employ some methodology to assess the creditworthiness of each applicant. This will involve checking your credit rating with a credit agency to ascertain if you have any current loans or credit cards and if you have defaulted on any credit arrangements in the last 6 years. It is worth noting that if you have any associated credit such as a joint bank account or joint loan agreement this will show up on a credit check. There have been many instances where a relationship has broken down with one or both parties having their credit rating affected by associated credit.
Affordability
As well as checking your income and the amount of credit you currently have every lender will assess whether you will be able to afford your mortgage repayments by checking the current level of your monthly outgoings. By checking your bank statements the lender will be able to see all your regular commitments and can assess whether you can afford the monthly mortgage repayments in addition to your other commitments.
Things to consider before applying for a mortgage?
Budgeting
Before applying for a mortgage you should carry out a full budgeting exercise on your finances. Use our Budget Planner page to access our video and podcast content that we created to help you budget as well as a template that you can use to execute your budget plan. Carrying out this exercise will give you a clear idea of how much you could afford to pay out on a monthly basis for a mortgage.
Research your mortgage options
The next step would be to look for a potential mortgage by searching our Mortgage Rate Comparison Tool to check the availability and cost of mortgages that suit your requirements and budget.
Check your credit report
Before applying for a mortgage it is advisable to check your credit report so you can be confident that there will be no nasty surprises when you do apply for a mortgage. We explain how to do this in our article - Check your credit report
Prepare paperwork
There will be a number of documents a lender will need to see before approving your mortgage such as:
- proof of name and address
- proof of income - last 3 months' payslips or SA302 if you have income from more than one source or are self-employed
- self-employed people should look to provide information alongside their tax return, which supports what the SA302 says about their income, such as bank statements.
- bank statements for the last three to six month
- proof of deposit - the lender will want proof of deposit (bank statement) when you make a mortgage application
- utility bills
- proof of benefits received
- passport or driving license
When is the best time to apply for a mortgage?
You cannot actually apply for a mortgage until you have had an offer accepted on a property. You can, however, obtain a 'mortgage in principle' ahead of finding a property so that all the background checks have been carried out leaving just a property survey to be carried out to obtain a mortgage offer.
Obtaining a 'mortgage in principle' will put you in a strong position if you are in competition with others on the property you are looking to buy.
How do you apply for a mortgage?
How much deposit do you need?
If you are a first-time buyer then a minimum deposit of 5% of the property purchase price is required by most lenders but if you can save a larger deposit you will gain access to a wider range of mortgage deals. If you are currently selling a property then any equity in that property can be used as a deposit on your next property, the more equity available the more choice and flexibility lenders will offer.
Do you need advice?
It is possible to arrange a mortgage directly with a lender but with the number of mortgage choices available, it can be very helpful to get advice from a qualified mortgage adviser who can discuss your needs and walk you through the application process.
Do you need a solicitor?
A solicitor or qualified conveyancer is required to transact a property purchase. You can use a solicitor of your choosing or seek a recommendation from either the estate agent or your lender.
What documents are required when applying for a mortgage?
See 'Prepare paperwork' section above.
What is an agreement in principle?
An agreement in principle is a document that shows that a lender has approved your mortgage application with the proviso that the information you have supplied is verified by the relevant documents and checks carried out. An agreement in principle is useful as an estate agent may not accept an offer on the home you wish to purchase if you cannot prove that you can obtain a mortgage.
How long does a mortgage application take?
An agreement in principle (referred to above) can be obtained in a day but a formal mortgage offer can take from 2 to 6 weeks. Once you have received your mortgage offer then the whole purchase will probably take around 3 months.
