When it comes to buying a property, understanding the financial process is crucial. Stress testing aimed to ensure that borrowers could afford their mortgage payments, even with increases in rates.
While it has since been scrapped as a formal measure, lenders still need to measure your affordability, and considering your income is a key factor in this.
Let’s explore the significance of this and how it can impact your home buying journey.
What is stress testing?
Initially introduced in 2014, the stress test required borrowers to prove they could afford their monthly repayments should their mortgage rates increase by 3% above the lender’ standard variable rate (SVR).
While the official test was scrapped in 2022, the loan to income ratio (LTI) will remain, meaning that you can’t borrow more than 4.5x your annual income. In essence, it’s trying to predict the future in that should the worst happen, you’d still be able to meet your repayments.
Understanding your LTI
Your LTI is a measure used by lenders to assess how much money you can borrow for a mortgage based on your income. It’s important to note that this is not the same as a LTV, or loan-to-value. A LTV is a measure of the size of the mortgage compared to the value of the property you’re buying.
While there are LTV options of 95% available to some buyers, most buy-to-let properties will require a LTV of 75-80%, meaning you need at least a 20-25% deposit.
Understanding both these ratios is important when applying for a mortgage as it not only confirms your affordability, but will affect how much you can borrow and the size of your deposit.
Why was the official stress test scrapped?
In early 2022, the Bank of England (BoE) reviewed the methods used to assess mortgage affordability, including how lenders use stress tests. Following this review, the Financial Policy Committee (FCP) of the BoE withdrew its stress test recommendations.
The reason for this was largely due to rising property prices, and the growing likelihood that greater numbers of people would be refused a mortgage based on the stress test alone. Even if an applicant could afford a repayment, like those who were already paying more in rent per month, there was the chance they could be refused a mortgage.
What does this mean for borrowers?
While lenders don’t have to use stress tests when considering mortgage applications, they still need to abide by FCA guidelines. These state that a lender must make a reasonable assessment of the customer's affordability, offering products that do not financially benefit.
This largely means that borrowers who could have otherwise been rejected may now be able to qualify for mortgages. Some applicants may even be able to get a larger mortgage than before, which comes with its own risks in many ways.
A responsible lender should have these conversations with you regardless of official rules or not.
Why were stress tests important?
It’s the concept behind a stress test that’s important, rather than the test itself. That core concept boils down to overall affordability. What does your income look like compared to your expenses? It’s vital that lenders test your affordability when you’re in the application stage, otherwise there’s a risk of getting a mortgage that you simply can’t afford.
Even if you aim to be on a fixed-rate mortgage, interest rates can increase when your fixed deal comes to an end. You would need to remortgage into a new deal, which may come with higher interest rates based on market conditions.
How much can I borrow?
Now that you know how much money you could borrow, you'll probably want to know how much this will cost you each month?
Start your mortgage search today and find out what your monthly repayments could be.
If you’re on a variable rate or tracker mortgage, your monthly repayments could fluctuate rapidly, and we have seen this in the last few months. Stress tests aimed to ensure that you could still afford your monthly payments, even with major fluctuations.
How stress tests affect landlords
While a residential mortgage is based on your salary and expenses, a buy-to-let mortgage is based on the expected rental income of the property. Lenders will typically want your rental income to be at least 125% of the monthly mortgage payments, and this is usually calculated on an interest-only basis. Some may even require 145% or more, depending on their specific criteria.
If the rental value of your property is not predicted to be high enough, the loan-to-value (LTV) that your lender requires may be impacted, which could mean that you need to provide a larger deposit.
If you need to work out the potential rental income of your property, you can speak with local letting agents or search for similar properties and their rental listings online.
Assessment criteria for landlord affordability
The typical criteria for buy-to-let has plenty of variables, but will typically include your:
- Income
- Deposit amount
- Employment status
- Age
- Credit score
- Location
Advice for applying for a buy-to-let mortgage
Regardless of your position, it’s always best to research various lenders and investigate their offerings before making any major decisions. This is where working with a mortgage adviser becomes advantageous, as they will already have an in-depth understanding of the market, what’s available, and which lenders are going to best suit your circumstances.
It’s also important that you have a clear understanding of the costs involved with maintaining a property, whether it’s repairs and maintenance, insurance and agent rates, tax, and legal fees.
It's important to acknowledge that there is no guarantee that it will be possible to arrange continuous letting of the property, nor that rental income will be sufficient to meet the cost of the mortgage.
Unlock your property potential
Understanding affordability is key when it comes to applying for the right kinds of mortgages, and while stress tests are no longer a formal consideration, factors like LTI and LTV do come into play.
These can all affect your ability to borrow money for your property, what kind of deposit you need, and your overall ability to afford your mortgage payments.
Navigating these financial hurdles can feel overwhelming, which is why we recommend seeking guidance from an expert mortgage adviser. We can help you understand and break down your options, assess your affordability, and find a mortgage product that fits your unique circumstances.
Get in touch with us and get the support you need to make an informed decision about your property purchase.
Important information
Your home may be repossessed if you do not keep up repayments on your mortgage.
There may be a fee for mortgage advice. The actual amount you pay will depend on your circumstances. The fee is up to 1% but a typical fee is 0.3% of the amount borrowed.
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