Although August typically registers heightened activity in the housing market, the number of mortgage approvals in the country had hit its lowest point in six months, according to the September 2023 report by the Bank of England (BoE). Approvals dropped 8% to 45,400 from 49,500 in the previous month. In June, it reached 54,600 approvals.
This continues to signal the impact of the 14 consecutive interest rate hikes that the BoE made before ending its run in September. Analysts argue that the outlook for the housing market will experience a further drop in demand in the coming months due to rising borrowing costs and mortgage approvals now becoming more increasingly challenging.
The cost of living crisis, which includes rising inflation and stagnant wage growth, further compounds the affordability gap. As the overall cost of living increases, it has become increasingly challenging to allocate a significant portion of household income towards home ownership.
With mortgage approvals becoming harder to secure whether you're a first-time homebuyer or an experienced investor, understanding the factors affecting mortgage approvals can improve your financial readiness and offer you the confidence of getting approved.
What factors affect my chances of getting approved for a mortgage?
Credit score and financial history
Lenders use credit scores and financial history to gauge your creditworthiness, assess your ability to manage debt, and predict your likelihood of repaying the mortgage. Credit scores and credit history are different from each other. While credit history typically covers your financial activities from the past six years, credit scores are specific to credit reference agencies and are calculated based on various criteria.
These credit reference agencies (CRA) assign a specific range to categorise excellent, very good, good, fair and poor credit scores. Lenders are more inclined to offer favourable terms, such as better interest rates to individuals with strong credit profiles because they are less likely to experience issues with repaying credit.
These CRAs have different methods of calculating your credit score although you'll most likely end up in the same category when you receive your results from each agency.
Payment history is a crucial factor in credit scoring models. Your credit score becomes lower if you:
Delay your payments on credit cards, loans, or other bills
Default on a loan, such as a mortgage, auto loan, or student loan
Lose your home through repossession
File for bankruptcy
Send unpaid debts to collections or being charged off by the creditor
In such a case, it can be difficult to secure a mortgage or you have to settle for one with less favourable terms, such as a higher interest rate.
Income and Affordability
Lenders assess your income and its stability to determine whether you can comfortably afford the monthly mortgage payments. In this regard, the debt-to-income ratio is a crucial indicator, since it represents the portion of your income used to cover debt obligations, including the proposed mortgage.
Suppose your annual earnings amount to £40,000 before tax and you have no other outstanding debts. You'll likely get approved of a mortgage if your monthly repayments fall within a reasonable percentage of your gross monthly income, typically around 28% to 36%.
In the UK, the average household debt-to-income ratio in Q1 2023 fell to 128.9%, the first time it dropped below the 130.0% level since Q1 2004. This means that a typical adult still has more debt than income even if the national average has fallen.
This presents serious implications on housing affordability in 2022 since house prices have increased by four-and-a-half times since 1997 compared to earnings rising by only twofold.
Loan-to-Value (LTV) Ratio
The LTV ratio compares the mortgage amount to the property's appraised value. A lower LTV ratio indicates a lower risk for the lender since there's more equity in the property, which makes it a key factor in mortgage approvals.
If you're buying a property valued at £200,000, for example, and you can provide a 20% or £40,000 down payment, your LTV ratio would be 80%. Lenders often prefer lower LTV ratios, typically below 80%, as they signify less financial risk for the lender. Therefore, you need a larger down payment in relation to your house's value to lower your LTV.
You may be approved of a mortgage when your LTV is higher than 80%, but the interest rate will also be higher.
Lenders look for a stable employment history to ensure you have a consistent source of income to cover your financial obligations. Frequent job changes can also raise concerns over having a stable income to meet financial commitments.
Similarly, gaps in employment can be a red flag for lenders. Periods without a job can disrupt your income flow, potentially increasing your risk of default.
For instance, someone with a history of temporary or part-time employment might face challenges securing a mortgage with favourable terms. However, some lenders extend their services to those without stable work or have low income.
How can I improve my chances for getting my mortgage application approved?
Enhancing your creditworthiness is crucial for securing a mortgage because it directly impacts your eligibility and the terms you'll receive. A strong credit profile can lead to lower interest rates, reducing the overall cost of your mortgage. This, in turn, can save you a lot over the life of your loan to make home ownership more affordable.
1. Manage and improve your credit score.
If you have multiple bills to pay and are on a tight budget, prioritise essential expenses such as rent or mortgage, utilities, and insurance. Ensure these payments are made on time. Regularly check your bank account to ensure that there are sufficient funds to cover your bills when they are due. Overdrafts or insufficient funds can lead to additional fees.
Keep track of your bills by creating a budget or using financial management tools. Make a list of all your monthly expenses, including due dates and payment amounts. Many banks also offer an option to set up automatic bill payments. You can arrange for bills to be paid from your bank account on their due dates. Paying bills on time builds a positive payment history, demonstrating to lenders that you are responsible and reliable in meeting your financial commitments.
Reducing credit card balances to improve your credit utilisation (the percentage of your credit limit that you use) can also help build your credit score. Calculate a realistic goal for reducing your credit card balances to a target percentage of your credit limits, ideally below 25%. If you have multiple credit cards, focus on paying down the ones with the highest interest rates first. This approach minimises the interest you accrue while paying off debt.
If your bank allows you to do balance transfers to cards with lower interest rates or debt consolidation loans, consider this to streamline your debt repayment process.
Finally, examine each credit report thoroughly and look for any inaccuracies, discrepancies, or suspicious entries. Pay attention to personal information, account details, payment history, and any accounts you don't recognise. If you have enough proof to dispute the errors, contact the CRA that issued the inaccurate report right away. Make sure to provide a clear and concise explanation of the errors and include copies of supporting documents.
2. Create a realistic debt repayment plan.
Determine your financial goals and priorities. Decide on your debt payoff objectives, such as paying off high-interest debts first, becoming debt-free by a certain date, or reducing your monthly debt obligations. Then choose a debt payoff strategy that suits you. This can be through a debt avalanche method where you pay off debts with the highest interest rates first while making minimum payments on other debts, or through a debt snowball strategy where you focus on paying off the smallest debts first, regardless of interest rates, and gradually tackle larger debts.
You may also contact your creditors to negotiate lower interest rates, reduced fees, or more favourable terms. This can help you save money and accelerate your debt payoff.
Another proven tip is to regularly monitor your debt repayment progress. This can keep you motivated to make necessary adjustments to your plan. However, if your debt situation remains complex or you're struggling to achieve your goals, consider consulting a financial adviser or credit counsellor.
3. Identifying areas where your expenses can be reduced.
Organise your expenses into categories to gain a clear understanding of where your money is going. Common categories include food, utilities, transportation, entertainment, dining out, and subscription services. Then identify what are your essential and discretionary expenses. Discretionary spending includes non-essential items and activities that you can cut back on if necessary. This may involve cancelling unused subscriptions, cooking at home more often, or finding free or lower-cost alternatives for entertainment.
It's always a good practice to set spending limits for discretionary categories. Write down how much you're willing to allocate to each category per month so you won't go beyond your budget.
Finally, consider diverting some of the money saved from discretionary spending adjustments into savings or investments to work toward your financial goals.
4. Maintain a consistent income level.
Since lenders assess your employment history and income, try to avoid significant fluctuations in your salary to avoid questions about your ability to make consistent mortgage payments. If you have gaps in employment, provide explanations for these gaps on your mortgage application. Valid reasons, such as pursuing further education or parental leave, can help mitigate concerns.
Changing careers or industries just before applying for a mortgage can lead to increased scrutiny from lenders. If possible, stay within the same industry or field for at least two years before applying for a mortgage, but if a job change is necessary, try to secure your new position first to demonstrate stable employment.
5. Aim for a higher deposit or a lower LTV ratio.
Determine the ideal deposit amount based on your budget, financial goals, and the requirements of your desired mortgage. A common target is 20% of the home's purchase price. Then calculate how much money you need to save each month to reach your deposit target within your desired timeframe.
If your monthly savings won't be enough, try boosting your income, such as taking on a part-time job. Freelancing can provide extra income that can go directly into your deposit.
You may also invest your deposit savings in low-risk, interest-bearing accounts or investments to potentially earn more interest than a regular savings account. However, be mindful of the risks involved.
6. Crafting a compelling mortgage application
Collect all required financial documents, such as bank statements, pay stubs, tax returns, and proof of any additional income sources. Ensure that your documents are up-to-date and accurate.
If you have unique circumstances, such as irregular income, provide an explanation to assure lenders of your ability to meet mortgage obligations. It's important to express your commitment to financial responsibility since the past unfavourable issues have happened. Highlight key actions and financial behaviours that demonstrate your improved financial management, such as paying off debts, building an emergency fund, or adhering to a budget.
7. Avoid multiple credit applications in a short period, especially leading up to your mortgage application.
Each credit application typically results in a hard inquiry on your credit report. It may become challenging to manage multiple credit accounts and their associated payments, increasing the risk of late payments and debt accumulation.
Therefore, too many inquiries in a short period can lower your credit score, so maintaining a healthy credit score is essential for obtaining favourable loan terms.
If you know you'll be applying for a mortgage in the future, start planning well in advance. Determine a timeline for when you intend to apply for the mortgage and work backward to establish your financial goals.
In this regard, resist the temptation to apply for credit on a whim. Carefully consider whether you genuinely need a new credit product and whether it aligns with your long-term financial goals.
However, if you have a legitimate reason to apply for another credit, such as refinancing or consolidating debt, communicate with your potential lenders. Explain your situation and ask about the impact on your credit score.
8. Check if you are qualified for home buyer assistance programs.
There are several home buyer assistance programs and schemes designed to help individuals and families purchase their own homes. These aim to make homeownership more accessible and affordable.
The First Homes scheme, for instance, can be used to finance a new home built by a developer, or purchase a property from someone who first bought it as part of the scheme. To qualify, you should be a first-time buyer, at least 18 years old, and able to secure a mortgage for at least 50% of the house's price plus other specific eligibility requirements related to income and local council conditions.
The Shared Ownership and Affordable Homes Programme (SOAHP), on the other hand, allows buyers to purchase a share of a property and pay rent on the remaining share. Buyers can gradually increase their ownership share over time.
There are other programs that a mortgage adviser can also help you identify which you may be qualified for.
A mortgage adviser can better help you with your mortgage application
Seeking ways to improve your mortgage application is a significant step towards securing a home loan with favourable terms. In this process, consulting with a mortgage adviser is invaluable. Their expertise can help you navigate the complexities of the mortgage market, assess your financial situation, and provide tailored advice on how to strengthen your application.
Mortgage advisers have access to a wide range of mortgage products and can guide you toward the most suitable options based on your financial profile. Their insights can be instrumental in optimising your application, increasing your chances of approval, and potentially saving you money in the long run.
Speak to a mortgage adviser from The Mortgage Hut today by calling us at 02380 980304. You also email us at firstname.lastname@example.org, or book an appointment through our contact form.