As mortgage lenders become even more choosy, here's how to turn yourself into the ideal borrower.
Unless you've been living off nuts and berries in a forest in the middle of nowhere, you'll be aware that the credit crunch has hit mortgage lenders hard.
Nowadays, to stand any chance of getting a decent mortgage rate, you'll need to put down at least a 10% deposit when buying a property.
But did you know that magic 10% figure applies if you want to remortgage too? In other words, you'll need to have built up a minimum of a 10% equity stake in your home if you want a cheap deal.
And, due to falling house prices, the value of your home may be dropping.
So ensuring you have that vital 10% equity stake could be more difficult than you think.
In fact, if you originally took out a 100% deposit-free mortgage deal and so started off with no equity in your home, you could be in big trouble. The uncertain property market means you may have to wait more than a decade before you pay off enough of your mortgage to qualify for a 90% LTV mortgage deal (where you borrow 90% of the property's value).
Falling House Prices...
If house prices... | Number of years it will take you to build up 10% equity |
|---|---|
Stay the same | 5 years |
Fall by 5% | 7 years |
Fall by 10% | 8 years |
Fall by 20% | 11 years |
Figures are based on a typical £200,000 mortgage at a rate of 5.5%
What if you already have lots of equity in your home? It's still a good idea to clear your mortgage as quickly as you can. The more you overpay the sooner your mortgage will be completely paid off, saving you thousands in interest and freeing you from your mortgage millstone forever.
If you start off with no equity, have a typical mortgage loan of say, £200,000 and your interest rate is 5.5%, it will take you five years to pay off 10%.
But this assumes the value of your home stays the same over the next five years. What if house prices fall, as many experts predict?
Let's say house prices drop by 5% -- a reasonably conservative estimate. In this case, it will take you seven years to pay off 10% of your original mortgage debt. The reason it take longer is because you need to pay off a larger sum to hit that 10% equity target, as the price of your property has fallen by 5%.
Worse still, if prices fall by 10% or even 20%, the length of time it takes to reach 10% equity stretches out even further. With a 10% drop it would take eight years to pay off 10% of your mortgage, while a 20% reduction in prices means 11 years' worth of repayments to get a 10% stake.
If your mortgage deal comes to an end before you have managed to build up that vital 10% equity stake, don't be surprised if you find the best new deals are beyond your reach. In the worst case scenario, you could find you're forced onto your lender's standard variable rate (SVR) -- which is usually the most expensive mortgage deal on offer.
What can do to make sure that doesn't happen? One option is to overpay now, while you are still on a relatively cheap rate, so that when the time comes to remortgage, you will have built up a larger stake in the property. (Most mortgages enable you to overpay by a specified amount -- typically up to £500 a month -- but check with your lender first or you could face a hefty Early Repayment Charge.)
If you started off with a 100% mortgage, here's how much you would need to overpay to ensure you have built up a 10% stake in your property after five years:
Overpaying Your Mortgage
If house prices... | You must overpay your mortgage by... | Your monthly repayment will need to be... |
|---|---|---|
Stay the same | £0 | £1,228 |
Fall by 5% | £109 per month | £1,337 |
Fall by 10% | £240 per month | £1,468 |
Fall by 20% | £500 per month | £1,728 |
Figures are based on a typical £200,000 mortgage at a rate of 5.5% over 25 years
The figures look pretty scary, don't they? A 5% drop in house prices means you'll need to overpay by £109 a month. But -- looking at it another way -- that's less than £4 a day.
Of course, the further house prices fall, the higher your monthly repayments would need to be. If your house value dropped by 20%, you would need to increase your monthly outlay by a whopping £500 a month or £16.66 a day.
If you can't manage that, remember that every little helps. Even overpaying by a small amount will have an impact over the long-term. The less you need to borrow the better -- in the eyes of mortgage lenders -- so keep chipping away at your mortgage debt whenever you can.
More: Remortgage In Haste, Repent At Leisure? | Why Home Improving Beats Moving
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