If you compare ascending the property ladder to running the Grand National, then scraping together a deposit is the equivalent of tackling Becher’s Brook: big, scary and very liable to trip you up almost before you’ve started.
With property prices in the capital on the up, the average deposit increased by more than £20,000 in the past year to an average of £132,685, according to research from Halifax. It’s little wonder that the vast majority of successful first-time buyers are those who can rely on the bank of mum and dad.
But for those who can’t, the Government’s big idea to turn generation rent into generation buy is its mortgage guarantee scheme, which will run until December 2022.
Under the plan, buyers — first timers and those trying to move up the ladder — will be able to put down five per cent of the total value of a home worth up to £600,000, with a government guarantee to secure it and a mortgage to pay for the remaining 90 per cent.
In theory, this cuts upfront costs dramatically. The average first-time buyer in London spends £416,000 on a first property, according to Nationwide, which means a five per cent deposit of £20,800.
But before you start drawing up a savings plan, consider the small print because the 95 per cent mortgage route has some drawbacks.
How much can I borrow for a mortgage?
In theory you can borrow 95 per cent of the cost of a property up to £600,000 — which means a maximum loan of £570,000. However, lenders won’t automatically start handing out thousands of pounds. The majority sensibly restrict you to borrowing up to 4.5 times your income.
If you earn £30,000, that means you are only eligible for £135,000, which will barely buy you a parking space in the capital. If you earn £50,000 you are talking about borrowing £225,000. It is not until you have an income of £80,000 — making a loan of £360,000 — that you’re talking about a realistic budget for London house hunting.
“Buying a property on your own is going to be out of the reach of a lot of people,” said Ray Boulger, senior technical director at mortgage brokers John Charcol. “But if you are making a joint application, that means a joint income, and... it is a lot more viable.”
Jo Thornhill, financial expert at MoneySuperMarket, thinks the scheme will help people who have been saving up for some time. “It will give those first-time buyers who are almost ready to go the chance to do things a bit quicker,” she said.
Will I be treated fairly by mortgage lenders?
Big loans come with higher risks for lenders than small ones, and most are trying to cushion themselves by imposing higher interest rates on 95 per cent mortgages than they offer to buyers with bigger deposits.
Better rates for bigger deposits has always been the norm, and the actual amounts involved aren’t large — 95 per cent mortgage interest rates are typically 0.7 to one per cent higher than for 90 per cent mortgages at around four per cent. But it does still mean that buyers with smaller deposits are being penalised. Boulger suggests that in the medium term, 95 per cent interest rates might become more competitive. But, he says, if you wait a year to save a small monthly sum on your mortgage, you’ll probably end up spending far more on renting — money which could be going towards paying off your mortgage.
Thornhill points out that you are not stuck with your first mortgage deal forever. “Once you are in the market, then two years down the track it may be that you can remortgage at a much more competitive rate,” she said.
What are the dangers of a bigger mortgage?
The key worry is that a five per cent deposit is a very small cushion against negative equity if house prices drop in the future. Most forecasters are predicting price growth in the UK, but unforeseen circumstances — another global financial crisis or a future pandemic — could change all that.
In the short term, Thornhill thinks that the stamp duty holiday has artificially inflated prices, which could drop back once the tax break ends. But Boulger is sanguine about the risks on the basis that while house prices fluctuate, the underlying trajectory has always been upwards. “Negative equity only becomes a real problem if you want to move,” he said.
“There is too much concern from some commentators; over the long term it is not a problem, and if you wait … [to save for a bigger deposit] … you might have to carry on renting for another five years.”
The key question is how long you intend to stay in the property you want to buy. If you can see yourself there for a good few years, you will likely be able to ride out price drops and benefit from growth. On the other hand, the less time you live there, the greater the potential for problems.
Should I just carry on saving and try to get a bigger deposit?
That entirely depends on how much you need to save and how long you think it will take you. “You have to factor in all the money you are going to spend on rent, and balance that against how much you are going to be able to save,” said Thornhill. “And if property prices go up, then all your savings could be wiped out.”
I want to go ahead and buy a home. What else should I budget for?
The deposit will be your biggest single expense but you are going to need thousands of pounds more to buy your first home. The other big start-up cost is stamp duty. If you are not already well into the buying process, the chances of finding and negotiating a sale between now and the end of the stamp duty holiday are very slim. When the holiday ends, first-time buyers will still be exempt from stamp duty on the first £300,000 they spend, and pay five per cent at the portion between £300,000 and £500,000.
You will also need to factor in legal fees (around £1,000 to £2,000), a structural survey, which will add another £500 or so, and local authority searches at a cost of anywhere between £150 to £1,500. You also need to set aside money for removals, to insure the property and for basic furnishings.
Are there any other low-deposit options?
If you want a brand new home then you can investigate Help to Buy, which allows you to put down a five per cent deposit on a new home, take a 40 per cent loan from the Government and get a mortgage for the remaining 55 per cent.
This means that not only do you not need a vast deposit but, because of the government loan, you also don’t need to earn a fortune to command a mortgage. However, you pay a premium for a new build and after five years you do have to start paying interest on your loan.
Your other option is shared ownership, where you buy part of a property and rent the rest. If, for example, you buy a 25 per cent share of a property worth £400,000, then you only need to raise £100,000, bringing a five per cent deposit down to a rock bottom £5,000.
The downside here is that you only own a quarter of your home and buying a bigger share, while simultaneously paying rent, will be a stretch.