Can I Use A Loan For A House Deposit?
There are several points to consider before using a loan for a house deposit, which we will cover in this blog.
The first and most prominent point is that not all mortgage lenders will allow you to take out a personal loan to use as a house deposit.
Types Of Deposit For House Purchase
With house prices so high in the UK, even a 5% deposit for a mortgage on a property bought for £250,000 means you will need to find £12,500.
High rentals make saving for any deposit, even a ‘small’ one of £12,500, very challenging, particularly when living costs are so high.
The list below highlights a few options when trying to find a deposit:
A gift from a family member. This is called a gifted deposit, and most of the time, a lender will require a letter from the person gifting the money to say that they do not want any repayment. A point to consider here is inheritance tax law. The person gifting the deposit must survive for seven years after giving it to avoid potentially having to pay inheritance tax.
A vendor-gifted deposit. When buying a new-build property, some building companies may provide an incentive to help with your mortgage costs. A building company might reduce the property's purchase price by the deposit amount or offer cashback. While some lenders accept either type of contribution, they may restrict the property value they are prepared to accept from this source. In addition, lenders may also cap the loan-to-value (LTV) if you use a vendor-gifted deposit.
A personal or unsecured loan. Only some lenders will accept a personal loan for a house deposit. If they do, they will consider the monthly repayment on the personal loan when assessing if you can afford the mortgage. Generally, personal loans are restricted to a short repayment term (1 year to 7 years), meaning the monthly repayments might not be affordable.
A Director’s loan. In order to avoid the possibility of paying inheritance tax, the individual who gives the deposit as a gift must live for a minimum of seven years. Most self-employed individuals run their operations via limited companies, compensating themselves by drawing minimal salaries from the business and receiving the remainder in dividends. During profitable years, they might opt to retain the money within the company instead of withdrawing it all and suffering tax losses. In such scenarios, one alternative is for the company to extend a loan to the director, potentially for a mortgage deposit, which would be reimbursed through future dividends.
Does A Personal Loan Affect My Credit Score?
A personal loan can affect your credit score in the following ways:
A personal loan can help build a payment history. Payments made on time each month can increase your credit score.
Creating a better credit mix helps increase your credit score by having various credit types. An instalment loan can improve your credit rating if you mainly have credit cards.
You are reducing your credit utilisation ratio. This measures how much of your revolving credit (such as credit cards) you use. To reduce the revolving credit percentage positively, you could replace your credit cards with a personal loan with regular monthly instalments.
Ways a personal loan can harm your credit score:
- A credit search. There are two types of credit search: a soft credit search and a hard credit search. With a soft credit search only, you can see a list of the types of credit you hold, like bank accounts, credit cards, and loans, and details of your payment history, including late or missed payments. It also shows public record information on county court judgements, bankruptcies, and individual voluntary arrangements over the last six years.
Lenders cannot see a soft credit search, and it does not harm your credit score.
A hard credit search is usually carried out when you make a full application - whether that is for a monthly mobile phone contract, credit card, or mortgage. This allows any lender to take a detailed look at your credit score and see how you manage outstanding debt, enabling them to decide whether they will lend you the money/credit.
Lenders can view a hard credit search negatively, and it may reduce your credit score by a point or two. If your credit report shows a sequence of hard searches, it could indicate to lenders that you are racking up a significant amount of debt, resulting in you being considered too much of a risk to some lenders.
- It would harm your credit score for up to six years if you missed repayments on a personal loan.
How Much Should A Deposit On A House Be?
Generally, you require a minimum deposit of 5% to purchase a property. Therefore, if you were buying a property for £400,000, you would be expected to provide a deposit of £20,000 from your savings accounts.
The bigger the deposit you provide, the better your interest rate will be, particularly if you have an excellent credit score.
You also need to remember that you might have to pay stamp duty as well as provide a deposit. Someone living in England who is moving up the property value would have to pay stamp duty of £7,500 when purchasing a property for £400,000. However, first-time buyers do not have to pay stamp duty on properties up to £425,000.
Should I Talk To A Mortgage Broker Before Taking Out A Loan?
You should always talk to a qualified mortgage broker before applying for a mortgage. Whether you want to get on the property ladder or are looking at specialist guarantor mortgages, you should speak to a mortgage broker.
Ensure that they are authorised and regulated by the Financial Conduct Authority and that the individual you speak to holds a Certificate in Mortgage Advice and Practice (CeMAP).
Whether buying your first home or a holiday home, a good mortgage broker will have access to hundreds of building societies, banks, and specialist lenders to find you the best mortgage deal and mortgage rate.
Most people think of heading to their local bank or building society if they want to borrow money. However, a qualified mortgage broker will have access to specialist sourcing software to find the most suitable product for the loan you wish to borrow. This way, you will avoid paying higher interest rates and be offered the most competitive, market-leading products when you apply for a loan.
For more information about ways to fund a house deposit, secured loans or second mortgages, contact our expert team today.