One of the biggest concerns for contractors is securing credit and, in particular, applying for a mortgage.
Mortgage applications are less straightforward for contractors than for employees, who can provide evidence of a steady, stable income. As a contractor, you may need to provide more information to verify your income and to convince the mortgage lender of your credit stability.
Here are our top tips for ensuring you can still apply for a mortgage, regardless of your employment status:
Decide how much you can borrow
The amount you can borrow is related to your income, and can be calculated using an online mortgage calculator. Provide a realistic measure of your annual earnings – don’t overestimate the amount you can borrow, or try to be too ambitious about the size of mortgage you are looking for. Banks aren’t willing to lend money to those they think cannot afford it, so make sure you have reasonable expectations about the amount of money you could borrow.
Halifax allows you to use your day rate to calculate an annual income as long as you have been contracting in the same industry for several years and plan to continue doing so.
Most banks will need at least two or three years’ worth of accounts to assess your income level. If you are just starting out contracting, the truth is, it will be very difficult to get a mortgage. Whilst minimising your salary will help reduce your tax liabilities, your mortgage eligibility will be tested based on your income level. So think ahead and balance the two out.
Stress test your application
This step is often overlooked, but is essential for contractors looking to take out a mortgage. Interest rates can jump about over the course of your mortgage, causing you to have to pay more or less in mortgage interest, depending on the type of mortgage agreement you have in place.
With interest rates of up to 5%, can you still afford your mortgage payments?
While interest rates remains at historically low levels now, there are no guarantees this will always be the case. By applying different scenarios to your calculations, you can work out whether you could continue to afford your mortgage throughout the duration of your repayment term.
Tidy up your credit profile
Your credit profile and overall credit score are used as important gauges of your creditworthiness. As a contractor, you simply can’t afford to be applying for a mortgage with black marks on your record, and you need to fix any issues with your credit profile before applying.
Remember that searches on your credit profile will themselves be visible to other lenders, and too many applications in a short period of time can damage your perceived creditworthiness.
Make sure you are paying debt off, and that you are making repayments on time across the board. A low credit score coupled with your self-employed or contractor employment status is likely to make it difficult to secure the mortgage you need.
Gather appropriate documentation
Banks and other lenders need to see documentation to support your application. For most, this would be in the form of identification cards and passports, payslips and perhaps bank statements.
For contractors, you may also have to show accounts, CV, contracts, or other financial records proving your income over a period of time that will convince the lender of your ability to meet long-term repayments.
A copy of any contracts you currently have will be helpful, demonstrating the amount and frequency of your pay. Make sure all your documentation is in order and you have all the paperwork you need ahead of your application – this will make it easier and less time-consuming to complete the process of applying for your mortgage.
Save for your deposit
Having a sizeable deposit reduces the amount you need to borrow, convinces the lender you will be more likely to repay, and provides additional security behind your application from the get-go.
Thanks to government schemes, it is possible to take your first steps on the housing ladder with as little as a 5% deposit on the value of your mortgage. But the more you can contribute up front, the easier you will find it to secure the mortgage you need.
Make a concerted effort to save for a house before jumping into an application – it’s always in your interests to have a bigger deposit to play with.
Check your expenses
Due to the new mortgage regulations imposed last year, all lenders are required to carry out affordability tests on mortgage applicants. This means your income is not the only criteria, as lenders assess your regular outgoings and use the remaining income (income minus regular expenses) to determine your affordability.
Lenders ask for three to six months’ worth of bank statements to provide evidence your regular outgoings and prove what you have stated in your application. So make sure you plan ahead and rack up a sensible spending record before you make an application.
Remember the tax factor
Remember that there is tax to pay when you buy a home, in the form of stamp duty. The stamp duty land tax threshold is £125,000 for primary residential properties for tax year April 2016. This means that you have to pay a stamp duty ranging from 1% to7% of the purchase price for any properties valued at more than £125,000.
From 6 April 2016, all buy-to-let properties are liable to pay a stamp duty.
Whether you are looking to buy your first home or to use your contractor income to invest in buy-to-let, make sure you add the stamp duty to your cost base. Think about how much you might have to pay in stamp duty, and make sure you know the threshold at which this tax kicks in. It could end up saving you thousands of pounds, or in the worst-case scenario, leaving you with an unexpected tax bill you might struggle to afford.
Other top tips for securing your mortgage
- Look for specialist mortgage brokers, and contractor-focused deals. These do exist, and can be based on annualised contract rates, or even multiples of your day rate in some cases. For example, Halifax offers contractor mortgages based on a multiple of your daily rate, with no need to file accounts or tax returns, and without the lengthy and complicated mortgage application for contractors. It’s worth checking it out
- Freelancers and those with multiple clients, should aim to secure a retainer from at least one client. Some banks and other lenders have the flexibility to look more creatively at your financial position, which can lead to a better chance of securing the mortgage you want
- Consider interest-only options. These provide lower monthly costs, with the ability to repay capital when it is convenient to do so – the perfect setup for contractors. However, with tightening FSA/FCA regulation around these types of loans, they may become less common
- Don’t rush in feet-first. Don’t rush in to buying a property because you feel you have to – you may well end up prejudicing your monthly financial position, and feeling undue amounts of stress as a result