Nearly all of us have that dream – pulling up the long drive to your own mansion (with 10 bedrooms, 10 bathrooms, an indoor swimming pool and underground bowling alley).
Unfortunately that sort of property is way out of reach for most of us.
If you’ve found the – slightly more modest – home of your dreams but it’s on the market for a bit more than you budgeted for, is it worth borrowing more? Well, we would advise against it. Read our guide to find out why.
The life-debt balance
Your mortgage is the most important of your credit agreements. After all, it’s what has helped pay for the roof over your head, and if you start to miss payments that roof could be at risk. Although it’s always a last resort, your mortgage provider can repossess your home if you stop making your repayments and fail to reach an alternative arrangement.
Because it is your most important debt, your mortgage bills should always be prioritised over your non-secure debt repayments. And you should also put it above your non-essential expenses.
Since the publication of the Mortgage Market Review (MMR) in 2014, lenders have been much more thorough when assessing mortgage applications and working out how much a customer can afford to repay. While they will ask you about your income and outgoings like your utility bills, tax and insurance, they can also ask you how much you spend a month on things like restaurant meals or nights out.
If you borrow the very top of what your budget allows to go towards your dream home, you may find that non-essential expenses like meals, visits to the pub and shopping trips will need to be sacrificed. So, you’ll need to consider whether that property is worth that.
Let’s call it the life-debt balance. You need to sit down and work out all your current outgoings – including the luxuries you allow yourself – and see how much you have left that you could put towards your mortgage. If borrowing more means giving up most or all of these luxuries, your life-debt balance could go out of kilter and you may soon miss your old lifestyle. However, if the property really is everything you’ve always dreamt of, this may more than make up for you saying good bye to some of your old treats.
It’s something only you can weigh up and decide. Be aware, though, that the lender you’re applying to may look at your current expenditure on luxuries and advise you that you’ll have to cut back in order to afford the mortgage you want.
What if your finances change?
However, the possibility of giving up some of your favourite luxuries isn’t the only thing that should make you reconsider taking on a larger mortgage. While you may just about afford those repayments with your current circumstances, if things changed would you still be able to do so?
None of us can predict the future, which means we shouldn’t rely on our current situation staying the same. You may quit your job, or your company may go bust and have to lay off its staff. And it’s not only negative life changes that can completely alter your finances; if you or your partner get pregnant and go on maternity leave you’ll need to be able to keep up your mortgage repayments in spite of this reduced income.
If you’ve borrowed as much as you’re able to right now and in a few years’ time find yourself with a reduced income, making your repayments may no longer be an option. You can speak with your lender and try to come up with an alternative arrangement, but ideally you should avoid getting into this position in the first place. If you borrow what you know you can comfortably afford to repay each month – or less than this - it may be less of a jolt if your income takes a hit. It’s also worth having the equivalent of a few months’ salary in your savings account to help make ends meet if you do find yourself without an income.
What if interest rates go up?
It’s not only your own life experiences that can affect your finances, but also external factors. The Bank of England’s base rate has stood at 0.5 per cent for several years now, which has made the tracker mortgages that follow it a pretty attractive option to home buyers. However, if that base rate goes up, so will your mortgage payments.
Standard Variable Rate mortgages may well also increase if the base rate does, and as this is the mortgage you tend to end up on once your fixed or tracker mortgage deal comes to an end, it’s worth checking whether you’re on this type of mortgage now. The only mortgage that would be immune to a rate rise is the fixed-rate mortgage, but only for the duration of the fixed-term you signed up to.
A rise of just a few per cent to your mortgage interest could equal you forking out a few hundred pounds more each month. If you’ve borrowed as much as you can now, a rate rise may make your repayments unaffordable further down the line.
Looking out for you
We mentioned the MMR earlier and how it has meant lenders take great care to make sure customers can only borrow a sum they can comfortably afford to repay each month. They will assess this by looking at your income, asking you questions about your expenditure and whether you have any future plans that may impact your finances. They will also perform a stress test, which is a way of calculating whether you would still be able to afford your mortgage repayments if interest rates increased by a few per cent.
As a result of this diligence, you’ll probably find it very difficult to borrow more than you can realistically afford even if you want to. This may mean that your dream home stays out of reach for now. However, even if you are offered the mortgage you need, you may still decide to downscale your house search and borrow less. By doing this, you don’t have to sacrifice any of life’s little luxuries and you have the peace of mind that if your income is reduced in the future, you’ll manage.
It may not get you the property of your dreams, but this peace of mind could result in a very happy home.
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Intelligent Lending Ltd (Credit Broker). Capital One is the exclusive lender.