When it comes to obtaining a mortgage as a self-employed individual, horror stories abound.
In reality, though, securing a self-employed mortgage can be painless–provided you know how to play the game. Yes, you need to get certain things in order before you begin, but even those with employers need to tick some boxes before they can apply.
In short, getting a mortgage when self-employed is more complicated, but it’s not impossible. And with the information provided below, you’ll be able to confidently move forward with your application.
Let’s get into it, shall we?
How Does Being Self-Employed Affect Getting A Mortgage?
Being self-employed can offer a multitude of benefits, such as flexibility, control over your work, and the potential for higher income.
However, when it comes to securing a mortgage, being your own boss may present a different set of challenges. Let's delve into how self-employment impacts the process of acquiring a mortgage.
Self-employed and perceived instability
Firstly, it's crucial to understand why mortgage lenders might view self-employed applicants differently.
The primary reason revolves around income stability. As a salaried employee, you typically have a consistent income that's relatively easy to prove with just a few payslips. Lenders see this as a reliable indicator that you will be able to meet your mortgage payments.
Conversely, self-employed individuals often have fluctuating incomes due to the nature of their work. This irregular income can be perceived as a risk by lenders because it's less predictable, even if your overall annual income is strong.
Essentially, lenders want assurance that you can repay the mortgage loan, and inconsistent income makes it harder for them to gauge this.
Your tax habits can have an impact
How you report your income for tax purposes can impact how a lender evaluates your mortgage application.
Self-employed individuals typically deduct as many expenses as possible to minimise their taxable income. However, when applying for a mortgage, a lower taxable income can count against you as it may appear that you don't earn enough to manage regular mortgage repayments.
Lender criteria matters, too
Lastly, it's worth noting that every mortgage provider has different criteria.
While some lenders might be more conservative in their approach towards self-employed applicants, others may specialise in dealing with this group and have a more nuanced understanding of their income patterns. As a result, you may find that the offers, terms, and interest rates you receive vary significantly between lenders.
In the face of these challenges, it's essential to remember that being self-employed doesn't make it impossible to secure a mortgage – it just means you may have to navigate a slightly more complex process.
Understanding Mortgage Requirements
Before applying for a mortgage when self-employed, it's essential to understand the specific criteria that lenders consider.
Familiarising yourself with these requirements can help you be better prepared and enhance your chances of mortgage approval.
Proof of income
The first requirement is robust proof of income. For the self-employed, this is often more complicated than for those with employers, who typically only need to provide payslips.
As a self-employed person, you’ll likely need to present at least two years' worth of accounts to give the lender a clear picture of your income.
This could include:
- SA302 forms: These are your tax return forms from HM Revenue and Customs. They summarise your income for a given tax year. Some lenders may ask for this form to assess your earnings.
- Company accounts: If you operate under a limited company, you may need to provide your company accounts, showing profits and cash retained in the business.
Just like any mortgage applicant, maintaining a good credit score is crucial.
Lenders use your credit score to assess your creditworthiness and determine how much of a risk you pose. With this in mind, you can why it’s crucial to review your credit report for any inaccuracies and work on improving your score if needed.
Paying bills on time, keeping your credit use low, and not applying for new credit too often can also help bolster your score.
Having a substantial deposit can increase your chances of securing a mortgage.
A larger deposit reduces the Loan to Value (LTV) ratio, meaning the lender has to lend you less compared to the value of the property, reducing their risk.
For self-employed individuals, aiming for a deposit of 20% or more can show lenders you are a serious and capable borrower.
Lenders will also perform an affordability assessment. This involves looking at your income and outgoings to determine whether you can afford the mortgage repayments, especially if interest rates rise.
It's beneficial to minimise your outgoings where possible in the months leading up to your application.
Lenders may also look at the stability of your business. Factors such as how long you've been in business, your industry's economic outlook, and your business plans could all be taken into consideration.
So, if you can demonstrate steady, consistent income and a solid business plan, this could positively influence your application.
Preparing to apply for a mortgage when self-employed
Preparing to apply for a mortgage may involve additional steps compared to someone who is traditionally employed.
Here are some tips to help you put your best foot forward when applying for a mortgage:
Organise your financial documents
Keep your financial records up-to-date and organised.
This includes your personal and business bank statements, tax returns, and accounts if you operate under a limited company. Lenders will want to see at least two years of income, although some may require three years.
Clear and complete records can help speed up the application process and demonstrate your reliability as a borrower.
Maintain a healthy credit score
Your credit score plays a significant role in a lender's decision.
Prior to applying, check your credit report for any errors and take steps to improve your score if necessary.
As previously mentioned, this can include paying your bills on time, keeping your credit use low, and avoiding new debt in the months leading up to your application.
Save for a larger deposit
A larger deposit can boost your mortgage application as it reduces the lender's risk. It also demonstrates to lenders that you can manage your money effectively and save consistently over time.
Aim to save 20% or more if you can.
Keep your debt-to-income ratio low
Your debt-to-income ratio is another factor lenders consider.
This is the amount of your income that goes towards debt repayment each month. If it's too high, lenders may doubt your ability to manage your mortgage repayments.
Before applying, consider paying down debts where possible to reduce this ratio.
Be prepared to explain your business
Lenders may want to understand your business better, including its financial health and future prospects.
Be prepared to explain your business model, your client base, and your plans for growth.
Having a well-crafted business plan can be helpful.
Consider working with a mortgage broker
Mortgage brokers can help you navigate the complexities of the process and potentially connect you with lenders who are more understanding of self-employed income.
That’s it for another week. We hope you found this article on applying for a mortgage when self-employed helpful.
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