When people are declined for a mortgage in the UK, a common reaction is to feel as though somehow they are a failure. Think Plutus disagrees; the only “failure” we see is in the advice that was given. The actions a person takes will have been based on the advice they received, wherever it came from, and it’s important that the advice is good.
There are many inaccurate myths about what it takes to get approved for a mortgage, and these horror stories are causing a number of people to give up on their dreams of property ownership. People assume they simply won’t be eligible, or that their earnings will not be sufficient, while many think the process will be too confusing and stressful. Without a doubt, there are many people who have the potential to own a property but are ruling themselves out before they even try. Stories and misconceptions about the mortgage market are proving themselves to be more of a barrier than the challenges of the actual mortgage process!
The number of self-employed people in the UK is rising rapidly as opportunities to do so increase. Self-employed people are some of the most common to make the mistake of assuming they could never get a mortgage. The assumption that irregular income, or the lack of 3+ years’ accounts, immediately rules you out of securing a mortgage is simply not correct. You will find figures that suggest a disproportionately large number of mortgage applications are turned down because of self-employment or being a contractor. But when you get expert advice and support with your mortgage journey, your chances of success increase greatly.
Let’s look at everything you need to know about securing a self-employed mortgage.
This article covers:
- The ‘self-employed mortgage’ doesn’t exist
- What about self-certification mortgages?
- Getting a mortgage: employment vs. self-employment
- What documents are needed to apply for a mortgage?
- Advice for first-time buyers
- Earnings and affordability for self-employed mortgages
- How many years of accounts are needed for a mortgage application?
- Sole trader or limited company: what business type makes it easier to secure a mortgage?
- Common problems with self-employed mortgages
- Think Plutus can help
Firstly: the ‘self-employed mortgage’ doesn’t exist
Being employed or self-employed has no impact on your entitlement to secure a mortgage. All lenders need is to know your capacity to make repayments. A consistent, contracted paycheque from a reliable employer can be a powerful way to show you have this ability, but numerous alternative methods exist to show your capability if you are self-employed. That said, there is no mortgage that is specifically designed for self-employed people. If you work for yourself, you will need to use the available methods for proving your ability to make repayments.
What about self-certification mortgages?
These tend to cause some confusion about the existence of self-employed mortgages. They were a way for people to borrow for a property purchase without the need to demonstrate their income, and were abolished back in 2014. Applicants were only required to state their earnings, without any evidence to back up their claims.
These mortgages were designed for a handful of self-employed people whose income was not easy to prove, but a much wider pool of borrowers ended up taking advantage of them. There were many cases of dishonest borrowers lying about their income to secure larger mortgages with very few checks, and self-certification mortgages soon earned a reputation as ‘liar loans’. When the Financial Conduct Authority abolished these mortgage types in 2014, it became somewhat more difficult for the self-employed to get a mortgage. Nevertheless, it is far from impossible, and this guide will tell you everything you need to know to maximise your chances of success.
The difference between employed and self-employed for securing a mortgage
Mortgage lenders have a legal obligation to have a certain degree of confidence in an applicant’s ability to repay a mortgage before they approve it. The onus is on the borrower to supply proof that they won’t struggle to make repayments, and unfortunately, this is a little easier to do for an employed person.
People who are employed are likely to have a salary bound by a contract with their employer. They will also be able to produce payslips and numerous P60s via PAYE to demonstrate their income. This evidence enables lenders to work out the amount of income a borrower should contribute towards mortgage repayments.
As far as an employee is concerned, the PAYE system happens automatically. When payday arrives, their tax is deducted and the remaining salary is their take-home money. This system makes it plain and simple for mortgage lenders to draw conclusions about the amount of money an employee could reliably repay each month.
For a self-employed person, it is not as simple to maintain such neat, tidy finances and accurately demonstrate profit. There are likely to be different taxes, expenses, invoices, bills, dividends and more – it may be tough to make a lender confident that your earnings will be sufficient to cover your mortgage payments.
The key is to be organised, and if you intend to buy a property in the future then there’s no better time than now to start getting your accounts in order. You will need to pre-empt the questions a lender might ask regarding your income so that you can be prepared to have the right answers.
What self-employed people can do to improve their mortgage chances
When you make the decision to try to secure a mortgage, the first thing you need to do is ensure all your accounts are well-organised. Here are some methods to achieve this that have proven to be effective for many applicants:
- Get an accountant: This is no-brainer to organise your accounts. In fact, some mortgage lenders will have this as a requirement for self-employed people, particularly if your business has very complex accounts. An accountant can prepare your accounts in a way that can help you and a mortgage lender feel confident in the accuracy of the figures.
- Have a good understanding of your figures: You don’t want to be too reliant on your accountant. Your lender will feel far more confident in you if you can demonstrate an understanding of what happens with your business’ money. For example, you may be asked to explain why your cash flow took a dip at a certain point. If you simply shrug this question off, the lender is likely to have doubts about your ability to make repayments. If, however, you can give a good explanation, they will feel more confident in you.
- Make use of accounting software: There are some very helpful tools out there to help stay on top of your finances. Many of these tools can also help you gather evidence of your business finances for mortgage lenders. These software tools enable you to consolidate all your business’ income and expenses in a single place, so you can monitor the flow of funds in real-time. What’s more, you can check invoices that are paid, due or overdue, enabling you to chase up late payers and move your finances into a healthy position ahead of applying for a mortgage.
What documents do I need to apply for a self-employed mortgage?
There are various methods to supply proof of income, and the right one for you will depend on the structure of your business and the length of time you’ve been your own boss. There are, however, certain documents that will be required in the vast majority of mortgage applications:
- The SA302: This is the most commonly-requested form for mortgage applications from self-employed people. It shows a breakdown of your tax that revolves around your most recent Self Assessment. The majority of lenders will request SA302s from the last 3 years to demonstrate you have sustained a certain level of income. We advise you to check whether the mortgage lender will accept home-printed documents for this stage, as some may require an official covering letter from HMRC. You can get your SA302 by taking the following steps:
- Log in to your online HMRC account
- Click on Self Assessment
- Click ‘More Self Assessment Details’
- Select ‘Get your SA302 tax calculation’.
You can then print the document out to give to the lender (if they accept documents printed this way).
- Evidence of income: Different lenders will ask for different documents to supply as proof of income. Some might request certified accounts certificates with an accountant’s signature, while others will accept a combination of balance sheets, bank statements and profit/loss reports. This is why it’s so important to organise your accounts fully and get a strong understanding of what the figures mean. If you are unable to understand your own accounts, how can you expect a lender to?
- Bank statements: Supplying bank statements will help prove your income, but other important things can be ascertained from them too, like your expenditure. When you apply for a mortgage through a bank with whom you already have some kind of account, they may already be able to access this information. In this case, they probably won’t ask for statements, but you should be aware that they are likely to be looking into your account history.
- Proof of deposit: As you can imagine, the lender is not just going to take your word for it that you have a certain amount for a deposit. They’ll need to see evidence of the money you have, probably via a bank statement with a recent date.
- Outgoings: With most mortgage applications, you will need to fill out some kind of expenditure form to provide details of regular outgoings. These include things like debt repayments, pension contributions, subscriptions and childcare costs, all of which will be factored into the lender’s calculations.
Advice for first-time buyers
If you are applying for a mortgage to purchase your first property, all of this will be very new to you. The rules of getting your finances and accounts organised are particularly important, and you’ll want to start with your deposit. Lenders will usually ask for a minimum of 5% of the property’s total value up-front. So if the property you are looking at costs £400,000, lenders will be asking for a deposit of £20,000, and the mortgage you take out will be for £380,000 plus interest.
Here’s what different types of self-employed people will need in addition to the mortgage essentials:
If you work as a freelancer or contractor through a limited company, you’ll need to supply your current contracts and, where possible, all contracts for the last 12 months. If this isn’t possible, your personal tax returns and company accounts can be used.
If you are operating as a sole trader, you will need to supply a minimum of 1 year’s finalised accounts. A recent SA302 from HMRC should be enough to cover this.
Limited company directors
If you are a director of a limited company, you will be required to provide your company’s accounts or personal tax return for the most recent year. Some lenders will need to see 2-3 years’ accounts, but you will find some lenders only require 1 year.
Earnings and affordability for self-employed mortgages
One of the key things you’ll want to know when applying for a mortgage is how lenders actually make their calculations. The most common method for a lender to analyse earnings is to focus on the net profit your business makes. This is true whether you’re a sole trader, contractor or any other kind of self-employed person. When you operate as a limited company, it will be the salary and dividends that the lender examines, or your share of the net profit. If you’re a contractor, your annualised day rate will be a key consideration.
Most lenders will determine the amount you can borrow with an ‘affordability calculator’. Think Plutus can help prepare you for that by looking at your details and giving you an estimation of the amount you can borrow. Our expert advisers will be able to give you a pretty accurate estimation, which helps prepare for approaching the lender. When it comes to it, lenders will look over a wide range of things to decide whether or not your application can be approved – your lifestyle spending, your personal commitments and your dependents will all be factors in the final decision.
How many years of accounts are needed to secure a mortgage?
If you’ve been operating on a self-employed basis for 3+ years, the fact that you’re self-employed should not cause too much friction with the average lender. If your accounts are organised and you can demonstrate a good cash-flow, there should be no issue. However, if your accounts’ history is less than 2 years, there will be additional challenges.
Self-employed with accounts dating back 2 years
You will find that certain lenders are more open than others to consider proof of income from 2 years of account history. If this is where you’re at, you should work hard to gather as much proof as possible of your earnings to try and persuade the lender that you will be able to make repayments reliably. Things like a proven record of steady work and a more substantial deposit should give your application a boost.
Self-employed with accounts for just 1 year
When you only have 1 year of accounts, lenders will find it difficult to confidently ascertain whether or not your income is sustainable. Having established contracts for future work will help your application, as will evidence of regular work from consistent clients. You will need to prepare yourself to look at a number of different lenders, and you are more likely to have applications turned down. At least this will mean that you’ve got all your accounts organised for your next application!
Self-employed without any accounts
If you are still in your first year of trading and have not yet submitted a tax return, you face an uphill struggle to demonstrate sufficient income to make mortgage repayments. Mortgage lenders are legally obliged, under FCA regulations, to show that they are lending responsibly, and with no evidence of accounts for a self-employed person, it will not be easy to meet this obligation.
If the end of that first year of trading is close, with some particularly successful months, one option would be to make an initial application and have a mortgage approved in principle based on your projected income. This will mean that when you do your first tax return with HMRC, much of the mortgage application work will already be done since a decision in principle will usually last for several months.
Sole trader vs limited company: which business type makes it easier to secure a mortgage?
The income for a sole trader is usually quite simple. Legally speaking, the business and you are the same entity, so all profits are yours and yours alone. These are the profits that mortgage lenders will be assessing, and an SA302 will demonstrate the income you received and the tax that was due. Lenders will want to see this information as well as your business accounts.
Lenders will search for signs that your income level has gone up or down recently. Where they see an increase, they will probably calculate an average for the past 2-3 years. If it has gone down, the most recent and the lowest figures will probably be the main focus.
When you’re operating under a limited company, your business is legally counted as a separate entity from you. This means your personal profits and those of your business are examined separately. In this case, lenders will focus primarily on your salary and any dividend payments, so you will need to demonstrate them clearly over the last few years. The accounts for your business will also be examined to assess how reliable you are, so ensure they are fully updated.
There will be lenders who also include net profit or retained profit in their calculations. This is profit that’s kept in the business rather than used for salary and dividend payments. Check with lenders before applying, and get this organised if necessary.
Common problems with self-employed mortgage applications
The most common problem self-employed people have when looking to apply for a mortgage is only having accounts dating back 1 year. Many lenders will have a minimum of 2-3 years as a requirement. A large increase in your income can also be a problem in a mortgage application. Lenders tend to take an average from the last 2-3 years, and when there are big differences between those years then the average they take is less reliable.
Think Plutus has access to the full market of mortgage lenders and products, so we can help. If you only have 1 year’s accounts, or you have experienced a hefty increase in your income recently, we will be able to find a lender that will consider your application.
Think Plutus can help
As expert mortgage advisers with vast experience in this complex industry, the Think Plutus team can help. The advice in this article is a generic guide, but the key to success when applying for a self-employed mortgage is to get quality, personalised advice from professionals with a comprehensive understanding of the market. We specialise in finding the right products for self-employed people, no matter how they conduct their business, so we can help make your application a success.
The Think Plutus team understand contractors and other self-employed people better than most mortgage advisers. We can help you determine your eligibility for a mortgage, get a good idea of how much you could borrow, and find the right product from the best lender. If you’re not already prepared to make an application, we can support you through the process of getting everything in order, then our whole-of-market access to mortgage lenders will ensure we identify the right mortgages for you to pursue.
There is no failing when you work with us. So when you need to secure a mortgage as a self-employed person, Think Plutus!