Assessing Funds to Buy A Property, A Quick Guide
Buying a home of your own could be the biggest financial commitment you ever make. So it’s not something you should rush into – especially if you don’t envisage staying in the same place for more than three years.
Buying will be a realistic option, however, only if you can amass the substantial amount of cash you will need to meet the costs involved.
Five Financial Reasons To Buy
Buying can be cheaper than renting – largely because mortgage interest rates are the lowest they have been over 25 years. According to recent research by Abbey National, even taking into account the costs involved in maintaining a property, on average it is 57% cheaper to buy than rent over 25 years.
Owning your home gives you security. Providing you keep up your mortgage payments, you know that you can stay in your home as long as you like.
When you have paid off the mortgage, you will have acquired a substantial financial asset and a home the costs minimal to live in.
Because lenders are so keen to attract new customers, especially first-time buyers, many offers to help out with some of the upfront costs involved in buying a property, such as valuation and legal fees, either by refunding them if the mortgage goes ahead or by providing a cash lump sum.
Providing your property goes up in value, buying your own home can mean that if, in the future, you want to finance home improvements – or any other large purchase, such as a car – you can extend your mortgage rather than using more costly types of loan.
Moving Up The Ladder
If you already have a foot on the property ladder and are considering a move, the costs you face are the same as those from a first-time buyer, with one major difference: As long as your current home has risen in value since you bought it, the sale proceeds will provide you with a deposit of your next property.
How big a deposit depends on how much you have left after:
- Negotiations with your own buyer – you may end up reducing the asking price by as much as 10%
- Paying off what you owe on your current mortgage – together with any charges for repaying it early (if applicable, though these charges may be waived if you take out your next mortgage with the same lender)
- Paying the estate agent – unless you choose to sell privately
- Meeting the legal fees involved in selling – unless you do the conveyancing yourself
- Covering the cost involved in buying the next property, as well as removal expenses
If all these costs add up to an amount that reduces the potential sale proceeds to zero – and you have no additional cash – trading up is not an affordable option.
You will need enough out of what’s left to put down a deposit of at least 5% on the new property, and of course you must also earn enough to get the size of mortgage you need.
Can You Afford To Buy?
The biggest single cost you face when buying a property is a cash deposit. The deposit needs to be at least the difference between the purchase price and the size of mortgage your lender is prepared to grant you.
Most lenders will not lend more than 95% of the valuation of the property, so the minimum deposit you will need is 5%, although 100% mortgages are becoming more popular. If you plan to buy at auction, you will need a deposit of at least 10% of your maximum bid price.
Your income also affects how big the mortgage you can get. If you are buying on your own, the most you can borrow is typically 3 – 3 1/2 times your annual income, although some lenders will lend up to four or even five times your income.
So if you earn £20,000 a year, you could get a mortgage of between £60,000 and £80,000. Assuming you could borrow 95% of the value, this would buy you a property costing between £63,150 and £84,200, for which you would need a deposit of between £3150 and £4200.
You also need a budget for:
- Stamp duty, which you will have to pay if the property costs more than 120,000. The rates are: 1% on property is worth £120,001 to £250,000; 3% from £250,001 to £500,000; and 4% on £500,001 or more.
- Land Registry fee, which is a flat fee of: £40 if the purchase price is up to £50,000; £60 from £50,001 to £80,000; £100 from £80,001 to £100,000; £150 from £100,001 to £200,000; £220 from £200,001 to £500,000; £420 from £500,001 to £1 million; and £700 on property costing more than £1 million.
- Search fees, which cost an average of £126 and pay for general checks – such as whether or not the property is in the part of the planned road development.
- Legal fees, of around £400 to £1000, depending on the value of the property. However, your lender may cover this expense.
- Upfront mortgage costs, which can vary according to the size of the mortgage and the type of deal you choose.
Housing associations and charitable trusts sometimes offer first-time buyers – who may be single people, single parents, or students – the chance to part-buy/part-rent low-cost properties.
The main principle is that you buy a percentage of the property, say 50%, and you rent the rest, with a service charge if it is an apartment. As time goes by you can ‘staircase up’ to 100% ownership.
This is a scheme specially designed for those who cannot meet the full cost of outright purchase straight away. Usually, your total monthly outgoings are smaller than they would be if you purchased outright.
Most local authority housing departments have lists of shared ownership schemes in their area. If you are eligible for a particular scheme, you can fill in and submit an application form. If you are accepted, you will be offered a vacant property or put on a waiting list.
Conditions associated with shared ownership include:
- Payment of a reservation fee, usually a couple of hundred pounds, which is non-returnable but does go towards the price.
- Getting a mortgage to buy your 50% or 75% share of the property.
- Your mortgage lender will carry out a valuation report, which will cost you around £150.
- You’ll need to appoint a conveyancer to carry out the transaction. This may cost around £400.
- When you move into the property, you will be paying a mortgage to the lender and some rent to the association each month.
- After you have lived in the property for a certain time, you can buy more shares in it (until your own it outright), or sell your shares back to the association (at a fair market rate).
Once you own the property outright, you can sell it on the open market.
Upfront Mortgage Costs
As well as budgeting for all the costs involved in buying a property, make allowance for the fees you may be charged for setting up your mortgage.
- Valuation fee, which pays for a professional mortgage valuation – the figure on which the lender will base the final mortgage offer. You can avoid this fee by choosing one of the special deals where the lender bears the cost of the valuation or refunds the fee if the mortgage goes ahead.
- Arrangement fee, to cover the administration costs of setting up the mortgage, although not all lenders charge a one-off fee for this.
- Looking fee, which you are likely to have to pay if you choose a mortgage deal where the rate of interest is fixed, or discounted.
- Legal fees, for the cost of creating a mortgage document, unless – as it usually is – this work is undertaken by your conveyance and so already included in the other legal fees.
Adding up the Mortgage Costs
Just as important as working out whether you can afford the one-off costs of buying (and selling, if you have to do that too) is checking that you will be able to meet the ongoing monthly cost of home ownership. Don’t overstretch yourself financially and take on a larger mortgage than you can afford to pay, as you run the risk of losing your home.
To give you an idea of what your mortgage repayments will be, the table below gives the monthly cost, for different sizes of the loan, of a repayment mortgage paid back over 25 years.
What Insurance do you Need?
Although your lender may offer the types of insurance detail below, you will not necessarily need all of them.
This is a must – without a suitable policy, you won’t get your mortgage. If you don’t take the policy offered by your lender, you may have to pay an administration fee of around £25, although the insurer you decide to use may pay this fee for you.
The cover is the cost of replacing (or repairing) belongings if they are lost, stolen, damaged, or destroyed. If you are moving, you’ll need a new policy for your new address.
Lenders like you to have life insurance because it pays off the mortgage if you die. Paying for life insurance is unavoidable if you choose an interest-only mortgage backed by an insurance-based savings plan, but with other sorts of mortgage usually have a choice. If you are unattached and dependent-free, you don’t need life cover. If you have a joint mortgage and/or children, you probably do.
Critical-illness policies pay out a lump sum if you are diagnosed as having one of the defining lists of life-threatening or seriously debilitating conditions (such as cancer, multiple sclerosis, loss of limbs/eyesight/hearing/speech). Whether you need critical illness insurance or not depends on several factors: the likelihood of serious illness striking before your mortgage is paid off, how would it affect your finances, and what other resources you have available.
Combined Life and Critical-Illness Insurance
The drawback of critical-illness insurance is that, typically, it will not pay out if you die within 28 days of the diagnosis of a serious illness. So, to plug this gap, many lenders sell policies that combined life with critical illness cover. If you decide you need both, combined cover tends to be cheaper.
Mortgage Payment Protection Insurance (MPPI)
Also called accident, sickness, and unemployment (ASU) cover. It aims to meet your mortgage repayments that 12 months (sometimes 24) if you’re not earning as result of redundancy or illness. So you don’t need it if your ability to meet your monthly mortgage repayments will be unaffected by illness or unemployment.
If you’re self-employed, having a policy that pays out if you are too ill to work could be useful, but you’re unlikely to benefit from unemployment cover. The reverse may be true if you an employee with a decent sick-pay scheme.
You are unlikely to benefit from MPPI if already out of work, work fewer than 16 hours a week, have not been in continuous employment for at least six months, or are a contract worker.