Posted by John Yerou
on February 16th, 2015 16:52pm in
Last Updated on August 28th, 2019 08:27am.
If you’re a contractor and a homeowner, you already know the pain. You know just how difficult getting a mortgage as a contractor is.
If you’re about to hop up onto the property ladder, buckle up. It’s gonna be a bumpy ride if you don’t heed this warning:
Banks and building societies exhibit unwarranted reluctance when lending to contractors!
But don’t worry. We have the answers, but only if you ask the right questions to the right people. Here’s our roadmap to homeownership for contractors.
First, we’ll share with you a bit of background. You need to understand why High Street lenders are so resistant to the self-employed.
Then, we’ll offer you a nifty shortcut to help you arrive at a helpful destination:
High Street mortgage lenders: why avoidance is the safest policy
When it comes to self-employed mortgage lending, most High Street lenders go frigid.
That your business may have a long relationship with a bank counts for zip. Nada. Zilch. Nil points.
When you ask them to give you a mortgage, you’ll find a welded chastity belt of ignorance!
But do you want to know the worst thing?
Most of those lenders do have contractor lending policies in situ. It’s just that at branch level, that level of underwriting is off limits.
Protest all you like. It’ll make no difference.
Yes, the contractor lifestyle ingratiates a plethora of advantages. But if you ask seasoned contractors what the biggest disadvantage of contracting is? They all tell you the same:
Getting a mortgage on the High Street as an independent professional sucks!
Back in the 90’s and early 2000’s, contract-based underwriting was almost taboo. But, hey! At least you had the good old self-cert to fall back on, right?
True, self-cert mortgages needed little in the way of evidencing income. But, boy, did you pay the price for going that route? The interest rates were mahoosive!
But the UK housing market supported it; few stakeholders batted an eyelid. Until…
…the credit crisis hit in 2008…
…the housing market crashed as house prices plummeted…
…and lending criteria everywhere sported a tighter chastity belt.
This time, it was the FCA who held the key.
Lenders’ frustration everywhere became palpable. They could open up to only high-earning employees with clean credit and big deposits.
If your income fell outside the strict, new lending criteria, you were doomed, laddie.
In branch, you’re either employed or self-employed
In many ways, most High Street mortgage lenders still struggle with that encumbrance. In-branch, advisors will offer contractors one of two types of lending criteria:
There is no middle ground. If an advisor can’t make your income structure fit their formula, game over. They will reject you, there and then.
That most contractors maximise income through tax-efficient pay systems passes them by. Even contractors who are employees of umbrella companies will struggle.
For branch-level advisors, these schemes are too confusing. They look for a box called ‘salary’ and use that alone.
The 2-dimensional perception of limited company contracting
As a consequence, their underwriters slot contractors into one or the other model. Applicants are either employed or self-employed. Talk about two-dimensional!
It’s a disaster. Advisors ignore any additional payment streams that don’t fit their model.
They’ll even assess an umbrella company contractor as ’employed’. On that basis, they judge any income on pay slips alone. If you’ve ever seen an umbrella company payslip, you know what that means.
When it comes to assessing mortgage affordability, they slip back into 2D mode. They’ll ignore other earnings and expenses. All their formula permits is that one figure in the ‘take home’ column.
Now, we know that most contractors keep salary low for tax purposes. But for lenders with such frigid lending criteria? We can almost guarantee that, in branch, they’ll reject a contractor’s application.
How long have you got?
But ineptitude when assessing contract income isn’t all. Banks also look at a contract and question its potential longevity.
No matter how well-paid or regular, current and past assignments are short lived.
An advisor could see the lack of long term contract cover as high risk. Once identified as such, they’ll mark up the application as that for the underwriter.
When that application then reaches head office, it’s like a beacon. That stamp will prime the underwriter to prepare for potential loan security issues!
If the underwriter isn’t familiar with contracting (most generic ones aren’t), it spells trouble. The short duration of contracts may imply that the contractor can’t maintain mortgage repayments.
Maybe once upon a time, they’d have given the applicant the benefit of the doubt.
But with the FCA ever watchful, it’s not worth their risk. This scenario will also result in the refusal of the mortgage application.
The end of the road for using contract income?
With ‘salary’ and long term security such burning issues, what’s the answer? How can a contractor get a mortgage that uses their total income?
First, I’m gonna sort of contradict what I’ve already said. The truth is, most High Street mortgages lenders do lend to contractors.
The problem, then? They tend not to lend at branch level, often only through an intermediary.
What does intermediary only mean?
Well, there are brokers who specialise in getting mortgages for contractors. These brokers exist not only to help contractors and freelancers. They also provide a vital service to the mortgage lenders themselves.
Many mortgage advisors won’t countenance ploughing through limited company accounts. It’s understandable and savvy stance.
Limited company payment structures are a specialist accountancy discipline in their own right. In the wrong hands, they’re a minefield.
But you know that; you’ve seen evidence of the fallout on the High Street. Trying to isolate what counts as disposable contract income is a tough gig.
So intermediary-only lenders use brokers to vet potential borrowers. In truth, so do many other lenders who deal direct with mainstream borrowers.
But where it all falls apart is that High Street lenders won’t approach brokers on your behalf. Their instructions are to send all applications to inhouse underwriters.
And if that underwriter accepts their advisor’s initial appraisal at face value?
Or they don’t have access to the lender’s contractor lending policy?
Again, the sentence is mortgage rejection, no chance of appeal.
Presenting your income so that lenders can understand it
Changes over the last decade have enabled contractors to circumvent this frustration. Newer lending criteria allows underwriters to approve mortgages based on contract rate alone.
This can help reduce mortgage rejection, or mortgage offers at excessive interest rates. The caveat is that contractors go through a broker who can understand their income.
How not to evidence your income
For the sake of repeating myself, the way forward is simple.
Lenders who lend to contractors don’t want to see limited company accounts. Also, if you show them an SA302 form, they can only use the post-tax salary and dividends it says you earn.
After tax, your ‘salary and dividend drawings’ — the bit their formulae call for — does not reflect what you can afford.
Even if you doget a mortgage offer based on salary, it will be low. Or it will come with eye–watering interest rates.
Your shortcut to getting a mortgage using gross contract income
You need to find a mortgage broker who specialises in contract income. That means they need to be fluent in contractor payment models. They need to understand contractor mortgage risk assessment inside out.
The broker will often do no more than organise mortgages for contractors and freelancers. That said, they will have managed thousands of such mortgages before you rock up at their door.
They’ll know every genuine contractor mortgage (and lender) on the market. This will include traditional contractor-friendly lenders, like Halifax and Clydesdale.
But they’ll also know the newer ones, of which there have been many in recent years.
Accord, Nationwide, NatWest, Leeds, Kensington and many more have piloted successful contractor mortgages in recent years. These can offer a great alternative to contractors outside the IT and Oil & Gas sectors.
But here’s the key difference.
Specialist brokers understand the vagaries of tax legislation that affect contractors. They’re familiar with the tax efficient schemes contractor accountants deploy.
What’s more, they’ll have a direct line to the underwriters of contractor products themselves. Thus, the broker’s team can to talk to them ahead of your application if they’re unsure.
This will help them find out exactly what the lender is looking for and how they want it presented. And because of these relationships, sometimes they’ll even get exceptions!
Mortgage rejection: a double-edged sword (in the wrong hands)
All this leverage is at your fingertips. Using it will ensure that you don’t get turned down again.
That’s important, and not just from an emotional perspective!
Repeated rejections will depose further black marks against your credit score.
By packaging your application just so, the broker will highlight all your income streams. This will bolster your professional standing in the eyes of the underwriter.
A proper application will also negate the security issue. Information therein hints at how likely you are to find further contracts at the end of your current one.
It will also identify your niche professional skills. The right skillset can support the notion that you’ll always likely find work.
Good brokers will, in short, prove to the lender your affordability and reliability. Plus, the bank, having dealt with them before, will feel comfortable in their assessment.
If you’re determined to use the High Street, good luck. But you need to grow a thick skin, and fast. Mortgage rejection is a blow that strikes at the heart of honest, hard–working contractors.
The safest, most competitive way for a contractor to get a mortgage is to engage a broker. For all the reasons above and more, I hope you find the broker who’s right for you.
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.