Why your salary is so important for a mortgage [Loan To Income Multiples]

Some people wrongly think that getting a mortgage depends on your deposit, but your salary is even more important!

Adverts are blasted all across social media claiming the 95% mortgage as being the answer to all millennial problems (we reveal why this type of mortgage can be a bad idea).

What Is Loan To Income? How does it affect the mortgage?

You have to think of the mortgage as your payment plan over the next 20 or 30 years. These payments need to be met every month for the mortgage to continue – no excuses!

If you miss future mortgage payments this can act like a crowbar in the cogs of a machine, and very quickly things start to get jammed.

Your ability to pay the mortgage off depends on how much money is coming into your bank account each month. And for most people the main income they get comes from their salary.

High Salary = Higher Loans

A higher salary lets you to pay off a bigger mortgage.

As a starting point – most lenders set a general multiplier that works out the range of money they will lend to you.

This is called the loan to income ratio (LTI).

The LTI multiple sets a maximum range of money that can be borrowed. But the borrower doesn’t have to borrow up to their maximum range – some people decide to have a safer option and keep the same mortgage size even when their salary would let them borrow more.

Where can I find the lender’s loan to income multiples?

Unfortunately, lenders don’t tend to publicise their loan to income multiples. There’s a good reason for this – mortgage decisions are based much more on affordability instead of a set multiple.

Imagine these two people:

Sam
Sam wants a mortgage for £120,000. He earns £40,000 a year. Sam has plans for spending his money the future and so saves 30% of his pay each month into his savings. He tends to have an inexpensive lifestyle (few hobbies, limits his trips to restaurants, doesn’t buy the latest fashion trends). Sam doesn’t consider himself very materialistic and usually makes do with what he has.

Peter
Peter also wants a mortgage for £120,000 and also earns £40,000 a year. However Peter likes to live his life in the present and rarely has much of an eye on the future. He took out a car loan to buy a new Audi and spends nearly £5,000 a year on it. He has dinner and drinks out at least two nights a week with friends. He likes to try new takeaways on Deliveroo instead of cooking. He sees the latest smartphone as must have – often upgrading his phone when the current version still works – and ties himself into long contracts. Peter also wants to see the world and stands by having 2 lengthy long haul holidays each year that are usually without any set budget.

Q: Which person is living the correct lifestyle?

Both.

Your decisions about what you buy are innately personal. Only you can decide what is important in your life and what is worth spending money on. Some may say Peter is irresponsible and wastes his money, whereas Sam seems more responsible. Others will say that Sam may not have tipped his toe into the world of indulgences and is failing to really enjoy life, whilst Peter is building a treasure trove of memories that he will always look back on with fondness.

But from the view of a lender, someone who saves more is viewed as lower risk. Just taking a multiple of the salary would not let them distinguish between someone with a low spend (Sam) and a high spend (Peter). This is why they look at affordability instead.

Affordability

For each mortgage application a lender will look at all of your outgoings each month. So if you’re the type of person that spends the pay cheque fairly quickly this will be picked up.

This is why it’s important to practice good financial discipline in the run up to getting a mortgage. A good track record of managing your spending makes a lender more confident in you. There are obviously expenses which cannot be compromised. Rent is usually a must until you’re in the next home. And unless you plan on using post to close your house purchase you’ll need to continue paying your phone bill too.

Remember that when getting a mortgage application – you are basically selling yourself. Nobody else is there to step in to pay off your mortgage (unless you go for a specific type of guarantee mortgage). The lender is weighing up if you are good for the money. You are being trusted to pay back a large sum of money.

Lenders tend to include the following categories when looking at your committed expenditure:

• Student loans
• Credit card debt repayments
• Car loans
• Maintenance payments

They will also look at other costs and how you spend your money.

Have Loan to Income Ratios changed over time?

LTI ratios have seen a lot of change recently. Mortgage data collected from the Bank of England and FCA lays out the differences over the past 10 years.

2010
For single applicants in 2010 26% of borrowers had a mortgage that produced an LTI of less than 2.5 (i.e. the loan was equivalent to a maximum of 2.5x salary). On the other end of the scale, in the same year 25% of borrowers had an LTI of over 4.0.

2020
Fast forward 10 years and the proportion of single applicant borrowers with less than 2.5 LTI has fallen to 18%. Borrowers with an LTI over 4.0 has jumped to 36%.

The same pattern is true for joint borrowers too.

The data is showing that people are effectively having to borrow more money when measured as a multiple of their salary. As mortgage terms continue to be in the range of 25 – 35 years (or in some cases longer) this means that the amount to be paid each month has increased over time. Households basically have to budget more of their pay cheque each month to paying off the house, whereas in previous years they had a greater slice of their pay left over in the month to enjoy.

Any Higher Than 4.0 for my LTI?

The sad reality for many is that even at a multiple of 4.0x salary, housing still becomes difficult to afford.

Single Applicant

The average worker’s salary in the UK is £31,000.
At a 4.0x ratio, this puts their maximum mortgage at £120,000.
Assume that a 10% deposit is provided for the house, this allows a maximum house price of £133,333.

The current average house price is £258,000, more than double the mortgage that a single person can get.

Joint Applicant

For joint applicants with 2 salaries, it becomes slightly easier. We assume a joint salary of £62,000 and a similar LTI ratio of 4.0.
This puts their maximum mortgage at £248,000 and with a similar 10% deposit, a maximum house price of £275,000.

The trouble with the calculations above is that they are simply averages. House prices vary considerable across the country. Whilst some areas in the North East of England have homes below the average house price, many areas in the South have prices that are much higher than the £275,000 average.

Even if a lender was prepared to provide a higher mortgage to a borrower with a higher LTI multiple, these are monitored very carefully. The regulator even imposes a maximum cap on the proportion of mortgages that a lender can provide in this category (called a loan to income flow limit). Because the lending multiple is higher they are considered to be higher risk.

One lender has recently been reported to go up to an LTI of 5.5, although this is still subject to a minimum deposit amount.

Can my deposit help with LTI multiples?

It is true that some lenders will offer a higher LTI when you have a higher deposit to put down. Put simply a higher deposit reduces the proportion funded by a mortgage, and this reduces the lender’s risk of not recovering the outstanding amount on the mortgage.

For other lenders the deposit is treated separately to the LTI calculation. This is why it can be beneficial to speak to an independent mortgage broker to work out which lender would be best for you.

Does my job type affect the LTI offered to me?

Lenders do favour some jobs over others. People who are classified as qualified professionals are viewed by lenders as having a salary that is likely to increase significantly over time. This includes professions in law, finance and medicine.

Example

Olivia currently works as newly qualified solicitor earning £40,000. She is aiming to progress in the field for the foreseeable future. Salaries at her firm increase with seniority, and she has the potential to be earning £60,000 in five years.

Olivia’s lender was prepared to lend her 5.0 times her salary (being £200,000). The lender understood she was a qualified professional, and assuming she was able to earn £60,000 by year 5 and makes all of the scheduled repayments the loan to value ratio will fall below 5.0 times her salary.

Stress Testing

Another thing to bear in mind – your lender will be testing your ability to meet the mortgage repayments under ‘stressed scenarios’. They typically look at the interest rates being proposed in your mortgage application and apply an increase to make sure you can still afford to pay.

So if you have done the calculations yourself and worked out that you can afford the repayments, don’t be disheartened if a lender disagrees with their own calculations. They are trying to assess the potential downside if certain conditions got worse. Ultimately they do not want you to get into a position of not being able to pay your mortgage back, and stress testing your mortgage payments gives them (and hopefully you) a little more comfort over your resilience.

Note – there are other factors that lead to the lender’s decision in deciding how much they are prepared to lend to you aside from salary. We assume in this article that the applicant meets all of the other criteria required by the lender.

Never Miss a tip!

Sign up to our mailing list and be the first to receive the latest information