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Here’s what mortgage lenders consider when carrying out affordability tests

December 21, 2024

Category: Mortgages

Applying for a mortgage can be stressful. You might worry a lender will reject your application and the effect it could have on your plans. A better understanding of what lenders are considering when making a decision may be useful and could reduce anxiety.

Even if you’ve been through the mortgage process before, rising interest rates could mean you feel more nervous about your application.

Some homeowners are finding that, despite being up to date with their mortgage payments, they can’t switch to a more affordable mortgage. Dubbed “mortgage prisoners”, higher interest rates mean they no longer pass affordability tests.

Lenders use affordability tests to measure risk

Affordability tests are an important part of the mortgage application process.

The Bank of England (BoE) first introduced stringent affordability tests in 2014 to reduce the chance of buyers taking on levels of debt they couldn’t pay back. They followed the 2008 financial crisis, which is partly attributed to unaffordable mortgages.

However, in 2022, the BoE reviewed the mortgage market and relaxed the rules. Yet, mortgage lenders are likely to still carry out their own affordability tests when you apply.

Lenders use them to measure how much risk you pose – how likely are you to default on your mortgage? Could you cope with a financial shock? The result could affect whether they approve your application and the terms you’re offered.

The 3 crucial areas mortgage lenders review during affordability tests

Each lender will have their own criteria when they’re reviewing mortgage applications, and they may look for specific factors when carrying out affordability tests. However, there are three key areas they may consider.

  1. Your income and employment stability

As lenders want to understand if you can afford mortgage repayments, your income is an essential part of your mortgage application. As well as how much you earn, they will also want to understand your employment status. For example, are you employed or self-employed?

Financially stable borrowers are less likely to miss mortgage repayments. So, they may also consider whether your job is stable – if you’ve remained with the same employer for a few years, it could weigh in your favour. In contrast, switching jobs just before you apply for a mortgage could be a mark against you.

  1. Your household expenses each month

How much income you earn doesn’t help lenders understand your financial position without context. So, they’ll also look at your regular household expenses, and how these may change.

It could highlight potential pressure on your budget and show if mortgage repayments would be affordable.

While discretionary spending often isn’t looked at closely by lenders, there are red flags you should be aware of. For instance, if you’re regularly using your overdraft before payday, or you’ve spent money gambling recently, mortgage providers could take a negative view of your application.

  1. Your ability to weather financial shocks

The unexpected can happen, and lenders want reassurance that you could still make repayments if you faced a shock. They may consider how your finances would hold up if you had to take several months off work, or other similar scenarios.

The recent interest rate rises are a good example of mortgage holders facing a financial change they may not have foreseen.

Since the end of 2021, the BoE has increased interest rates. It’s led to soaring mortgage repayments for some homeowners, and many more could face increased bills when their current deal ends. According to the Independent, 1 million households could see their monthly mortgage repayments increase by £500 by 2026.

As part of their stress tests, lenders may consider if you could weather further increases to the interest rate.

Understanding your lender’s criteria could improve your chances of securing a mortgage

If you’re worried you may not pass affordability tests, remember, lenders set their own criteria. Not being accepted by one provider doesn’t necessarily mean you can’t access a mortgage.

A mortgage broker could help you understand which lenders may be right for you. It may improve your chances of securing a mortgage, and might even help you access a more competitive interest rate.

If you have questions or would like our guidance when applying for a mortgage, please contact us.

Please note: This blog is for general information only and does not constitute advice. The information is aimed at retail clients only.

Your home may be repossessed if you do not keep up repayments on a mortgage or other loans secured on it.

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