A Guide for Independent Professionals Considering a Mortgage

Posted by John Yerou 

on February 27th, 2014 00:55am in Mortgages.
Last Updated on October 2nd, 2020 17:52pm.

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Trying to get a mortgage can be an insurmountable downside of contracting. Contractors do have certain lifestyle advantages: higher pay rates, flexible hours, greater freedom.

But the pay-off is often settling for an uncompetitive mortgage on the High Street.

Lenders often reject or penalise applicants who don’t fit their salaried/employed borrower model. That’s because many banks and building societies still use inflexible formulae to approve loans.

To generic financial advisors, contractors are either ‘employed’ or ‘self-employed’. As a limited company contractor, you’re a bit of both.

As you’re independent of your client, yes: you’re self-employed. But as the director of your limited company, you also employ yourself.

That’s where the grey area of contractor mortgage affordability seeps in. Let’s try and add some clarity, eh?

Table of Contents

Limited Company payment structures: the paradox

Contractors pay themselves through market-specific tax efficient vehicles. These payment structures offset permissible elements against taxes to optimise income.

It’s all legal and above board. But it can also get complicated, too complicated for a general advisor.

Being employed and self-employed goes way beyond their pay grade. Thus, they pigeonhole contractors as one or the other. This then isolates a large proportion of a contractor’s income.

At branch level, advisors don’t have a field for that portion of income in their formulae. So they ignore it. As a consequence, the contractor finds their mortgage affordability decimated.

Even if the advisor acknowledges that they earn more than their salaried counterparts, they can do nothing about it.

In the event, they reject the application. They cite the ‘end date’ of the applicant’s contract as low risk as a get out clause.

Every journey starts with a single step

Negatives aside, the last few years have seen a trickle of positive changes. Not all lenders are averse to mortgages for freelancers and contractors. Some have even piloted pioneering launches.

The market is beginning to see lenders gear products specifically towards the way contractors work. To accommodate this growing market, they’ve developed bespoke mortgage underwriting.

To be fair, you’ll not have access to these underwriters in branch. Despite record numbers of self-employment, contractors are still a “specialist lending” category.

Nominating a broker is a good first step. Many contractor-friendly lenders do and only deal through intermediaries.

But generic lenders also benefit from going through a broker. It ensures that advisors don’t reject contractor applicants who’d otherwise be good for a mortgage. Not that they don’t have faith in their staff. But as I say, contractor accounts are complicated.

Using your contract to underwrite your mortgage

The method brokers and underwriters use is called contract-based underwriting. It reviews applications on an annualised extension of the contractor’s day rate. This encompasses all income streams, whether ‘employed’ or ‘self-employed’.

This represents a sizeable shift in thinking, but won’t guarantee success. Not all lenders are onboard. Those that are each have their own mortgage lending criteria for contractors.

Both the applicant and the lender still need to cross every ‘t’ and dot every ‘i’. The contractor must know how to package their application for best effect. But for safety, most underwriters only confide this process to their specialist brokers.

The main reason for caution is the FCA’s ever-watchfulness since the credit crunch. The punishment for banks stepping out of line can be substantial.

So when you apply — and with the above in mind — contractors should heed the following:

Keep That Credit File in Tip Top Condition

Like everyone else, contractors need good credit history to apply for a mortgage. Lenders are even less inclined to approve your application if you have poor credit history.

As we’ve alluded, advisors need little encouragement to find a get out clause. So if house hunting is on your agenda, plan well ahead.

Give yourself a head start: keep a check on your credit score. You can pay for a service like Equifax (or just make use of the 30-day free trial).

There are free forever alternatives. Experian has recently introduced a fee-free version of its long-running service. Also, ClearScore has both a desktop client and mobile credit checking apps.

Why use credit report services?

You should use these services to dig into your credit report, which is how banks see you. They’ll list your prior financial record, which may show transactions you don’t expect. Uncover the black marks and set about putting them right.

This acid test in your own hands should give you sufficient time to make repairs:

  • check that you are on the electoral roll;
  • try to bring overdue payments up to date;
  • approach creditors to get agreements and stick to them;
  • look at small wins that you can undertake yourself with little detriment to your lifestyle.

Even if you can’t bring everything up to date in time, your work could pay off. Lenders will see the efforts you’re making to reduce your credit balances. Getting them as low as possible gives you a high credit to debt ratio, thus a better score.

Use a Contractor Mortgage Specialist

So as we’ve said, some lenders are offering bespoke contractor mortgages. But that doesn’t mean you can simply wander into your high street bank and sign on the dotted line.

On the contrary. You still need to find a reputable independent mortgage broker, like Freelancer Financials.

Such brokers tend to only deal with self-employed workers. They have intimate knowledge of the payment structures independent professionals use. They also know which contractor-friendly mortgage lender will suit their status best.

But their experience goes beyond understanding the contracting market. They’ll have already built up contacts with underwriters in banks offering contractor mortgages.

This experience helps them package your application to guarantee you maximum success. It will avail you of the best interest rates and optimise your loan affordability.

Get An Agreement in Principle

An Agreement — or Decision — in Principle can be a dangerous document in the wrong hands. Countless contractors get their A-i-P from a branch, but their application fails when it gets to an underwriter.

Your day rate as a contractor is, compared to employees, impressive. An advisor will look at that rate, the value of the home you want buy and, in principle, say yes.

What they don’t understand — or always ask for at this stage — is your limited company accounts. When those accounts reach an untrained underwriter, they’ll reject you.

Why? Because the underwriter will look at the figure in the salary column first. You know you keep that low for tax purposes, but they won’t. They’ll likely see that salary as your sum affordability and reject you outright.

In contrast, getting an A-i-P from a specialist broker is a powerful document. It gives you leverage as a buyer. It gives you confidence that you can afford to buy your home.

So, yes: get an Agreement in Principle. But get one that will hold water with underwriters, too. Your specialist broker can help you secure that document.

Save Up as Much of a Deposit as You Can

No one offers 100% mortgages any more. And beyond government-backed mortgages, 95% LTV mortgages are a lot scarcer than before the credit crunch.

Since 2007, banks and building societies have tightened their belts. They’re saving the best deals for those with big deposits and unblemished credit.

If you can raise a 25% deposit, you’ll put yourself in a strong position. But that’s a big ask, especially for newer contractors.

That said, contractors can get competitive rates with a 10% deposit. The Best Contractor Mortgage Rates table reflects that sentiment with a host of amenable lenders.

If you must get onto the property ladder at all costs, Help-to-Buy could be your answer. The government initiative has seen many iterations since its launch. Our updated Help-to-Buy Guide has all the gen on 5%–deposit contractor mortgages.

Ensure All Your Paperwork is in Order

There’s another huge positive of contract-based underwriting: paperwork. Or rather, the lack thereof.

Yes, it’s important that you get the basics right. Get your credit file in shape. Make sure you’re represented on the electoral register. Evidence of future employability and in-demand industries could also help.

Beyond that, you’ll need to supply only a minimal amount of additional documentation. Savvy underwriters know that limited company accounts are almost futile. They’re interested in your contract rate, its industry and your credit score.

Before you pick up the phone to a broker, you’ll need:

  • a copy of your current contract, showing your contract rate;
  • a utility bill confirming your details and address;
  • an up-to-date CV detailing recent work history;
  • 3-months’ personal bank statements*.

That’s it. No accounts or payslips. A true mortgage based on your contract rate.

There’s No One-size-fits-all Contractor Mortgage Calculation

*Lenders’ requirements differ: each has their own lending criteria. This variance is why it’s crucial you contact a specialist broker.

Some ask for business accounts instead of personal statements. Or both. Some like to see six months’ worth of statements. Others will even offer a contractor a mortgage on day one of their first contract.

For a specific mortgage quote tailored to your status, call a trained advisor. We can provide a generic overview here. But if experience has taught us anything: all contractor business are different. Don’t put down a deposit or make an offer before you talk to someone qualified to give you the right advice!

Don’t Stretch Your Affordability

Back before the credit crunch we had self-cert mortgages. They, like 100% mortgages, are a thing of the past.

The reason self-cert bit the dust is because people were lying about what they could afford. The industry itself daubed self-certification mortgages “liar loans”.

Borrowers over-stretching themselves helped fuelled the Mortgage Market Review. This report tightened up lending and led to the policies you see in place today.

So don’t get greedy and overstretch. You’re not being clever when you get a mortgage based on false documentation. You’re setting yourself up for a fall. One that may do untold damage to your ability to borrow in the future.

Before you apply for a mortgage make sure you’ve done your homework. Calculate exactly how much you can afford to borrow and stick to it.

Sod’s Law: prepare yourself for all contingencies

While you’re at it, plan for anything that could go wrong. Sod’s law says that if it can, it will. There are contingency plans to cover illness and payment protection, but don’t bank on these.

Consider worst case scenarios. There’s nothing worse than buying a home then wondering how you can afford to keep it. Getting a mortgage should be a joyous time, not a time to put you under more pressure.

No matter what a bank says you can afford, you must stay realistic. Just because a lender may be willing to lend you more money, it doesn’t mean you have to take it.

When you do get a mortgage, be sure that you’ll always be able to pay it back. Add in your living costs, bills and any future costs that might arise. Disposable income plays a huge part in your lifestyle; don’t become a prisoner to your mortgage.

Once you’ve done this, work out a comfortable repayment amount and stick to it, come what may.

Author: John Yerou

John Yerou is a pioneer of contractor mortgages and owner and founder of Freelancer Financials, Contractor Mortgages®, C&F Mortgages and Self Employed Mortgages, trading styles and brands of the award-winning Mortgage Quest Ltd.