Many contractors believe that owning a home with only 5% deposit is impossible. Far from it. Others think that self-employed people need larger deposits than permies. Again, that’s so not true.
Using the government’s Help-to-Buy scheme, anyone can buy home in the 95% loan-to-value bracket. In English, that’s a mortgage based on you having just 5% deposit set aside.
True, many contractor-friendly lenders offer more competitive deals for those with 10% or more to put down. But if you’re looking to get on the property ladder for minimal outlay, Help-to-Buy could be your best bet.
Help-to-Buy – what is it?
The government introduced the Help-to-Buy mortgage scheme in October 2013. At first, it focused on new build properties only and went by the name of the Equity Loan.
But before year end came, the government rolled a second phase. This would also help people with only 5% deposit, but to buy existing homes. Moreover, the need was so pressing, they brought it forward from its January 2014 scheduled release.
Why the rush? Well, the whole concept of Help-to-Buy was to help:
thousands of people frozen out of the housing market because they cannot afford large deposits”
The plan was for Help-to-buy to kick-start the housing market to the tune of £130bn over three years.
Neither the government nor the market expected the reaction these two initiatives garnered. So much so that Chancellor Osborne has given banks an ‘emergency brake’ if uptake becomes overbearing.
Balancing the books under Responsible Lending criteria
With a handful of lenders on board, Equity Loan, went to market. To say adoption was a success is an understatement. The Halifax, one of the scheme’s early adopters, had to impose restrictions on intermediaries.
I know what you’re thinking. “Aren’t any mortgages better than none when you’re trying to kick-start the housing market?”
Not quite. Especially once the Mortgage Market Review enforced post-credit crunch Responsible Lending guidelines.
All mortgage lenders have to show a balance of the type of property loans they have on their books. Soon after launch, the Halifax was showing a disproportionate amount of Help-to-Buy sales.
To stem the tide, Halifax reduced the value of mortgages it allowed intermediaries to sell. Under Help-to-Buy, the maximum home value is £600,000. But instead of allowing them to offer the full 95% of that value, Halifax reduced brokers’ upper threshold to £150,000.
Needless to say, anyone going the broker route for a Halifax Help-to-Buy mortgage felt the pinch. In real terms, anything other than a flat was off the market.
In November 2014, Halifax conceded a little and raised that limit to £250,000 (through brokers). It still won’t by a fat lot in the capital, but it’s a step in the right direction.
What are the two parts of the Help-to-Buy scheme?
Help-to-Buy was the showpiece of Chancellor George Osborne’s 2013 Budget, when he stated:
“I’m determined to back people who want to do their best for their families. Help to Buy is about getting behind those who aspire to own a home.“
Previous government initiatives had focused on first-time buyers. In contrast, Help-to-Buy helped those moving home or taking their first step on the property ladder.
There are two parts to the government initiative:
- Equity Loan
- Mortgage guarantee
Here’s our overview of both elements. We’ll focus on the Mortgage Guarantee element, first. Then, we’ll conclude with a recap of Part One, the Equity Loan.
What is the Mortgage Guarantee Scheme?
95% loan-to-value mortgages were commonplace before the economic meltdown. But the credit crunch forced many mortgage lenders to remove their higher loan to value (LTV) mortgages.
The entry point to owning a home rocketed, excluding anyone who didn’t have at least 15% deposit. Knee-jerk reaction maybe, but it almost brought the housing market to its knees. Unless you had 15% saved and ready to go, there was no point whatsoever in talking to a broker.
By comparison, lenders held their most competitive interest rates for those with 25% deposit. Or for those who’d accrued equity in their existing home, so needed to borrow less to buy the next.
Help-to-Buy for New Builds was already available, but there were few ways to buy an existing homes with only 5% deposit. And not everyone wants a brand new home. Indeed, many of those who did had existing homes to sell.
Without offering a way in for people to buy the homes people were selling, there would be a stalemate, again.
Mortgage Guarantee | Protecting the lender, not the borrower
The Mortgage Guarantee changed the perspective of lenders who’d shunned those with small deposits. How? Well, the ‘guarantee’ bit sees the government now back those borrowers. If they default, the guarantee protects the bank or building society’s interest under the scheme.
Existing home owners struggling to remortgage can also qualify. Indeed, their need may be even more urgent. One of the major restrictions on the housing market has been the amount of ‘mortgage prisoners’ created in the wake of the crises.
What’s a mortgage prisoner? It tends to be someone who bought their home at the peak of the housing boom, around 2007. Since then, the value of their home has dropped so much they cannot remortgage because they still owe more than their home’s worth.
This isn’t the case all over the country. In London, the South East and some of the UK’s major cities, house prices have seen sufficient movement. But there are pockets where this scenario remains prevalent.
It’s in these instances where Help-to-Buy can shine a light from the end of the tunnel. By reducing the minimum deposit to 5%, the government hopes to release homeowners still stuck in this rut.
How does the mortgage guarantee work?
Mortgage providers can buy an indemnity guarantee from the government when a borrower only has a 5% deposit. The guarantee is only there to protect the lender if the mortgagee defaults on repayments.
It does NOT protect the buyer in any way, shape or form. If borrowers fail to repay the mortgage and the lender repossesses the property, the government will make up that loss.
You also need to apply through a lender who’s signed up for Help-to-Buy. Not all have. Even fewer ‘contractor friendly’ lenders have. More on that, below.
I’ve got my 5% deposit; what else will the lender need?
Contractors and freelancers wishing to use the guarantee need to put down a minimum deposit of 5% of the property value.
That’s is not the only criteria. Borrowers must also satisfy the lender’s affordability checks and have no adverse credit history. There is no room for error, here. All applicants must have squeaky-clean credit history, otherwise lenders will reject their application.
Here’s a checklist of mortgage guarantee scheme requirements to see if it’s an avenue you could pursue:
- it has to be a residential property you plan to live in, not to rent out;
- the property you want to buy must not exceed £600,000 and must be in the UK;
- the mortgage payments must be on a capital repayment basis, NOT interest-only;
- you can only own one property and cannot have interest in any other property, anywhere in the world;
- you can’t use this mortgage scheme for shared ownership.
Example of Help to Buy mortgage guarantee for a home with a £240,000 price tag.
What do we need to look out for?
Early adopters of Help-to-Buy were Lloyds, Halifax, RBS, NatWest and, a little later, Virgin. Due to the extra business the scheme brought to those early supporters, many more lenders have now signed up.
The official website has a full list of Help-to-Buy lenders. But please be aware that not all lenders included are contractor-friendly.
Also, check the mortgage rates on offer. Lenders who sign-up for Help-to-Buy incur an indemnity charge when buying the guarantee. They’ll factor that cost into the resultant interest rates, so can be higher. Especially for mortgages where people have larger deposits.
Depending upon your desire to get on the property ladder will help you decide if this is the right way to go.
Some people will see the higher interest rate as a small sacrifice, considering they only have a 5% deposit mortgage. Others will hold out until they have more to put down on their home.
Thus, borrowers who can find a 10% deposit may not need to utilise the scheme. There are more competitive rates with 10% deposit than Help-to-Buy.
What’s the New-build Equity Loan scheme all about?
The first roll out of Help-to-Buy comes in the form of an equity loan from the government. Unlike the guarantee scheme, these mortgages are only available for new-build properties.
Like the Mortgage Guarantee, only properties up to a value of £600,000 qualify. In contrast, access to the Equity Loan is provided through participating house-builders.
The deposit works in a different way, too. Borrowers must raise 5% deposit for the property they want to buy, whichever scheme they choose.
But this is where Equity Loan differs. The next step is to borrow a further 20% from the government. This is interest-free up to the value of £120,000, 20% of the upper £600k property value, for the first five years.
Equity Loans are open to both first-time buyers and home movers, but on new-build properties only. You’re not allowed to rent the property out and cannot own any other property at the time of purchase.
Example of Help to Buy mortgage equity loan for a home with a £240,000 price tag.
What’s the catch?
The Equity Loan is ONLY interest-free for the first five years. You must also repay the full Equity amount when the property is finally sold. It can, however, be repaid early as long as the main mortgage with the lender is also paid off at the same time.
A 1.75% annual fee will kick in after five years. That fee will increase each year by 1% over inflation, as measured by RPI, the retail prices index.
Who cannot apply for Help-to-Buy?
Highlight the fact that the HMG has its guidelines, but lenders may increase those terms at their discretion.
Anyone who doesn’t meet the Financial Conduct Authority’s impaired credit standards will not qualify. This includes anyone with a county court judgement against them for a debt over £500 in the past three years.
These are the guidelines set for lenders by the government. But do please check with your individual lender. There is nothing to say that mortgage providers have to be so lax. If there general policy is stricter, qualification can be set higher.
The scheme will also not be available to contractors wishing to buy a second property.
I know. Many contractors buy properties as a tax-efficient path towards a more comfortable retirement. But the targeted market of Help-to-Buy is people struggling to get on the property ladder.
Borrowers must sign a declaration verifying they have no interest in any other property anywhere else in the world. It’s then no surprise to learn that Buy-to-let landlords are also barred from Help-to-Buy
What happens if I fall behind on my mortgage payments?
Like any other mortgage, if you fall behind with your repayments, the lender will repossess your home.
If you’re part of the equity loan scheme, you’ll still also be liable for the 20% equity loan. The Government will want their money back on the resale of the home, whether you’re in it or not.
Author: John Yerou
John Yerou is the owner and founder of Freelancer Financials; a trading style & trade mark of the award winning Mortgage Quest Ltd. One of the most recognised names in providing mortgages for contractors and freelancers across the UK.
In 2004 John began his career in Financial Services as an independent mortgage adviser and broker. John has been instrumental in negotiating bespoke underwriting for contractors with high street lenders.
His presence in the industry as a go-to expert is growing by the day and he is regularly cited and writes in publications both locally and nationally.