En Garde

Much has been written concerning the merits and the restrictions of income multiples versus affordability calculators.

At present, mortgage lenders are more in favour of the affordability calculator, offering clients an increased borrowing potential in a time when the average property price continues to escalate.

Traditional income multiples appear archaic. Although most do deduct committed outgoings in the form of loans, credit cards, maintenance, etc, before applying the income multiple formulas, they do not necessarily take into account an individual’s personal spending habits.

Stephen Knight, executive chairman at GMAC-RFC, recently recounted that, during his former employment at a major high-street lender, the accepted criteria at the time was to only lend a client three times their income. The amount the lender believed one could afford based upon interest rates at that time. He went on to say that as interest rates increased by 30 per cent within the following 12 months, he was charged with calling clients to say that they would now need to afford the increased costs of servicing their mortgage; in spite of the fact that the lender did not believe the client could afford to do so at the outset of the mortgage agreement.

Differing potential borrowing

Taking a very crude example of a single client today, earning £25,000 with no commitments, other than normal living expenditure, many lenders will be happy to lend the client a multiple of earnings of roughly four times, or maybe more, subject to credit score. This gives the client the potential to only borrow £100,000. The same client, however, when assessed against several high-street mortgage brands’ affordability calculators, may be advanced the equivalent of up to 4.9 times their salary, therefore allowing the client the opportunity to purchase the property they want rather than that which he/she is forced to accept.

Table One on the next page demonstrates the differing potential borrowing levels available for three lenders using their respective affordability calculators. Alliance & Leicester (A&L) introduced an affordability calculator last year, RBS Intermediary Partners (RBS) introduced its calculator within the last two months and Nationwide Building Society recently made amendments to its calculation.

Table One shows the maximum loan for a first-time buyer (FTB) earning £25,000, with and without a loan commitment of £250 per month, over 25 and 30-yrs on a capital and interest repayment basis.

With the average property price now approximately six times the average income, it is little wonder that more lenders have moved to affordability models. If we assume most FTBs can typically raise deposits of between 5 and 10 per cent and the average property price is around £176,000 (Halifax House Price Index) then even if a client had between £9,000 and £17,000, as a deposit, they would be very short in terms of being able to borrow what they would require to facilitate the purchase at these levels.

Stretching borrowing further

For clients who may need to stretch their borrowing levels further, the lenders in Table Two below – First National, Mortgages plc and High-Street Home Loans – offer greater borrowing scope via their affordability calculators, but it should be emphasised that the rates are likely to be higher than the aforementioned high-street brands.

Max loans for FTB earning £25,000, with and without a loan commitment of £250 per month, over 25 and 30 yrs on a Capital & Interest repayment basis

If we take the example of First National on the basis of the client with no committed loans, the borrowing equates to 5.66 times over 25 years and almost six times over 30 years. Although in relation to the example of the average property price the borrowing requirement still falls some way short, the increased borrowing potential these lenders bring will ensure more clients are able to realise their aspiration of home ownership.

With income multiples falling short of mortgage clients borrowing needs, and neglecting to account for an individual’s personal spending habits, and with the increasing introduction of affordability calculators among high-street lenders it is reasonable to assume that lenders are re-appraising their attitude towards lending criteria to ensure they can lend to those clients who have the ability to pay more for their mortgages while continuing to ensure they lend responsibly.