When you are self-employed, securing a mortgage is undoubtedly a little more complicated than for those with salary declarations to back up your earnings. However, with careful planning and advice, it can be achieved. This is where the expert advice and services offered by high-value mortgage and bridging finance brokers can help you secure the best possible lending terms. They can negotiate with lenders to highlight your income strengths. There are key differences for self-employed people when defining, declaring and proving income that benefits from expert knowledge of the lending markets.
Self-employed mortgage seekers, whether you’re a sole trader, partnership, contractor or limited company shareholder, will inevitably find themselves with the taxation purposes conundrum. You will undoubtedly be aiming to minimise profit to reduce the tax burden. However, this can reduce the income level for mortgage purposes. Therefore, it is necessary to maximise the opportunities to use various other types of income such as shareholdings and dividends; and also consider when is the best time to apply for mortgage funding to maximise your verifiable income to the lenders. Contractors can, in some instances, benefit from a special calculation that uses the value of a current contract to determine annual salary.
It is no longer possible to self-certify income for mortgage affordability calculations. Self-employed mortgage seekers must be able to cover mortgage costs from real incomes, causing the conundrum we mentioned between minimising tax liabilities and maximising borrowing potential. Self-employed mortgages represent just 11% of the entire mortgage market, and it is becoming more difficult to secure mortgage lending if you are self-employed. Mortgage approvals are now still only at around 30% of the approval rates they were in 2006.
Income types
Salary – PAYE partnership or limited company salaries by shareholders or outright company ownership, which is taxed at source and tax liabilities are met on an ongoing basis.
Bonus – Lenders all have different ways to consider bonus payments as income. Some will only lend using an average of various previous year payments. Some may offer to lend using projected future income.
Dividends – Shareholders often use dividends as an efficient way to avoid national insurance payments on some of their income; however, only specialist lenders are likely to allow dividend income when calculating borrowing affordability. You may also benefit from expert advice to present information on potential dividend payments as they are susceptible to the company’s underlying profits.
Director’s loan – Loans are available to many directors through the loan scheme, offering them a salary top-up drawing facility, which is interest-free for nine months and one day after the company year-end. Access to loan facilities to top up income throughout the year is tax-free at the point of payment and commonly repaid when the company dividends are paid.
Drawings – A specific distinction exists between salaries and drawings, even though both are paid through the PAYE system. Classified as personal income, drawings can be made throughout the tax year, with a maximum amount being confirmed when the profit and loss balance sheet is drawn.
Expenses – Expenses income is not relevant to mortgage affordability calculations, being considered a direct reimbursement of the costs incurred for purchases and services associated with running your business.
Employee Benefits – As with expenses, mortgage affordability generally will not include benefits in kind or other employee benefits as part of the lending income affordability checks.
Calculating affordability
Lenders, including high street banks, specialist lenders and private banks, will use a number of factors to calculate their affordability factor, taking a different account to the array of income streams that self-employed mortgage seekers can present. In many cases, it is the skill and knowledge of a mortgage broker in this specialist lending arena, the way they build your case, the presentation of your finances and the industry knowledge to identify which lenders are best approached for any given scenario.
Lenders generally require a holding of more than 15% equity in a limited company before they will consider a shareholding, and structures can be diluted where there is more than one director or a partnership structure. Options include:
Net profit (averaged of multiple years) – As a company director, you may have spent years building up your business and only accessing minimal income. To base their affordability calculation, some lenders will seek to identify an average taxable net profit over several years. In this case, it could be more beneficial to approach lenders with a figure for a share of the taxable net profit per annum.
Net profit with salaries added back – Considered perhaps the fairest and most representative income calculation is that of salary plus net profit. Lenders use an average over a predetermined period, calculating pay and net profit. Therefore, this method does not reduce income through dividend payments and is likely to be more favourable.
Salary and dividends are perhaps the most straightforward way using the total salary and dividends, a scenario best where the company profits after salary payments have been received as dividend income.
Of course, the best course of action for any individual relies on how they have managed their business accounting. In cases of retained earnings and profits being held within a business, some income calculation methods are less favourable. Relative financial health is better assessed using averages and evaluating the business’s overall financial health to use in affordability calculations.
Conclusion
If you are looking for a self-employed mortgage in the future, you should consider how you handle your accounts to show your financial security in the best light and make changes to ensure you have the freedom to access the mortgage levels you need and can afford.
Maximising your income and taking advantage of tax-efficient withdrawals can help alongside reducing expenses to ensure that you do not over-stretch. It can often be beneficial to re-evaluate your finances and make tweaks that can save you money, both in the short and long term to help present your case in the best light to possible lenders. Company accounts, tax returns and accountant certificates can all be used to support financial strength.
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