Mortgages: how much can you afford to borrow?

Understanding how mortgage affordability is calculated

When you apply for a mortgage, the provider’s decision on how much you can afford to borrow can seem like a mysterious one. But there’s no magic or secret behind the outcome; just a simple affordability formula.

Here are the factors your mortgage provider will consider.

1. Your income

In the past, your income was the only factor that mortgage providers would base their decision on. Things have become a little more complicated since then, but your income is still considered to be one of the main determinants of whether you can afford to pay back the loan.

The maximum you’ll be able to borrow is usually 4.5 times your annual income.

So, you’ll need to prove to mortgage providers how much your annual income is. If a significant portion of your income doesn’t come from your regular salary, but instead from overtime, bonuses, commission, or dividends, you’ll need to find a mortgage provider who will include these in their consideration. Some will also include pension income, tax credits, and allowances.

2. Your credit score

Mortgage providers will always check your credit score with a credit reference agency before agreeing to lend you money.

Your credit score will reflect any financial issues you have encountered in the last six years, such as loan defaults, county court judgements, individual voluntary arrangements, or bankruptcy. These issues will affect whether a mortgage provider will lend to you, how much they will lend you, and the interest rate available to you.

3. Your deposit

Having a large deposit (relative to the value of the property you intend to buy) demonstrates a certain level of financial responsibility to mortgage providers. It also lowers the risk of lending to you, as the money lent could be more easily recovered when the property is sold, if you were to default on the loan.

So, generally speaking, the more you have saved, the more money you’ll be able to borrow.

4. Your outgoings

One of the ways that affordability checks have changed in recent years is that mortgage providers must consider how much of your income is spent on essential outgoings. After all, knowing your income isn’t that helpful if you already spend 70% of it on bills and loan repayments.

Essential outgoings include:

  • Groceries, toiletries, and cleaning supplies
  • Household bills, e.g. gas, electricity, broadband
  • Car costs, e.g. tax and fuel
  • Other essential travel costs, e.g. commuter travelcard
  • Insurance, e.g. home, pet, or life insurance
  • Medical costs, e.g. contact lenses or prescriptions
  • Debt repayments, e.g. credit cards or other loans

5. Other spending

As well as how much of your income is spent on essentials, mortgage providers will look at the cost of your current lifestyle.

So, they might want to know how much you spend on:

  • Dining out
  • Entertainment
  • Shopping
  • Holidays and non-essential travel
  • Gym memberships

If a large part of your salary is spent on these non-essentials, you’ll be less likely to keep up with mortgage repayments in the future. So, if you have costs in these areas that you’d happily sacrifice to afford a bigger mortgage, you might consider cutting them several months before you make your application.

6. Future outgoings

It’s not enough for mortgage providers to simply assess how easily you can afford a mortgage now, as it’s a long-term loan. They’ll need to consider if you’ll be able to afford it in the future.

So, they’ll consider the likelihood of various circumstances occurring while you have the mortgage, such as redundancy, serious illness, or having a baby. If you’re currently pregnant or have young children, the cost of raising these children may be included even if it is not reflected in your current spending.

Having enough cash savings (at least enough to cover three months’ worth of outgoings and spending) can help to demonstrate to a mortgage provider that you would still be able to afford your mortgage.

7. Future interest rates

There are other future changes that could affect your ability to afford your mortgage repayments, and the most significant is an interest rate rise.

Mortgage rates could rise and fall multiple times over the lifespan of your mortgage and, unless you have a fixed-rate mortgage, this could lead to your monthly repayments increasing by as much as 8%. A mortgage provider will check if you’d still have enough income left after your essential outgoings and other spending to make these repayments.

Though mortgage providers all use broadly the same affordability criteria when deciding how much to lend you, there are small differences in what they’ll each check, which could mean that one mortgage provider will lend you more than another.  It can be time-consuming to find the provider that will lend you the money you need, so many people choose to work with a broker to find the best arrangement.

All Rights Reserved. Information contained in this article and on our website does not constitute advice and is provided for information purposes only. Recipients should not act upon it, but should seek professional advice relevant to their own situation.