Once you've decided on buying a house, you need to figure out your price range and how much you you can borrow.
If you've got your eye on that seven-bed period house with its own tennis court, perhaps you've jumped the gun a little.
Before you start getting your hopes up on that dream home, you need to figure out how much you can afford to spend on a house.
This will also dictate how much you can borrow for your mortgage.
Missed a step? Check out Step one: Should I rent or buy?
Meeting a mortgage advisor
An important first step is meeting with a mortgage advisor.
They’ll crunch the numbers based on your income and outgoings, and give you a rough idea about how much you can borrow.
As a general rule of thumb, you can expect to be able to borrow roughly four times as much as your gross income.
When you first meet with a mortgage advisor, you should have these documents to hand:
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proof of ID, eg passport or driving licence
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proof of current address, eg council tax or utility bill
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last three months’ worth of payslips
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your most recent P60
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details of any credit commitments, eg credit card statements, student loans or overdrafts
The mortgage advisor may also look at your credit history to help with their calculations.
Breakdown of costs
There are a few factors that come into play with a mortgage that could impact on how much you have to pay back each month:
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Initial deposit – this needs to be at least 5% of the home’s value. The bigger the deposit, the more favourable rates you could get.
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Mortgage length – mortgages typically last 25 years, but longer terms are available. Remember that, with interest added, longer mortgages mean you tend to pay more overall.
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Interest rate – how good an interest rate you get depends largely on how big your deposit is, as well as how good your credit rating is.
Loan-to-value
Don’t you just love jargon?
You might hear the phrase “loan-to-value” (LTV) being bandied about.
In a nutshell, this is the percentage of a home’s value that is being covered by the mortgage.
For example, if you want a house worth £120,000, and you put down a deposit of 15% (£18,000), your mortgage lender will front the other 85% (£102,000).
The LTV on that mortgage would be 85%. From the lender’s perspective, the higher the LTV, the riskier the loan. This usually means they’ll up the interest rate as a way of protecting themselves.
Help to Buy
If you’re struggling to get a good mortgage rate because you can’t get a large enough deposit, then the government’s Help to Buy scheme might be an option for you.
Help to Buy offers two main options that lets you get a mortgage with only a 5% deposit. The first is where the government lends you up to 20% of the home’s value.
This is only available for newly built houses. You’ll have to pay it all back of course, but the money borrowed from the scheme is interest-free for the first five years.
The second is where the government acts as a guarantor for up to 15% of the home’s value. This reduces the risk to the mortgage lender so they can offer you a 5% mortgage.
This option is available for older and newer houses.
Help to Buy is only for houses bought in England. There are similar schemes in Wales, Scotland and Northern Ireland that may work differently.
So by now you should know roughly how much you’re able to borrow, what kind of deposit you’re looking at, and a rough idea of your price range.
Next up, you need to cut back on your spending and get saving for that deposit!
Next: Step 3 - Saving for a deposit
Prev: Step 1 - Should I rent or buy?
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