What Percentage of Income Should Go to a Mortgage?

If you’re buying a property in the UK, you’ll most likely need to take out a mortgage, as people rarely have that much cash.

While buying outright can be a dream, your dream home doesn’t have to be. All you need to do is arrange for enough funds to put down a deposit. 

The rest of the mortgage can be paid in monthly instalments over the entire term of the mortgage.

Of course, this raises a critical question: what percentage of income should go to a mortgage repayment every month? 

You must be careful when deciding this, as you need to balance your expenses and the repayment amount. Also, make sure to use a mortgage affordability calculator to understand how much you can really borrow and this is a big step in giving you an indication on what the lender will offer you.

In this article, we will understand precisely how you need to do that.

How Does Mortgage Repayments Work?

Calculating the monthly repayment is not as simple as dividing the mortgage amount by the months you need to repay. 

First, you need to understand the core components of the mortgage, as explained below.

1. Principal

This is the primary amount you’re borrowing, and paying it back in full is the most essential component. Usually, the principal repayment percentage is lower initially as there is a higher level of interest repaid monthly due to a higher overall loan balance and repaying the principal increases over the loan term as the overall balance reduces and interest charged is less.

2. Interest

This is the next aspect of the mortgage, and initially, you’ll be paying more of the interest than the principal amount. This is the money you’re being charged for availing the loan.

3. Insurance

Your mortgage payments go to waste if your property sustains damage for unforeseen reasons. 

That’s where insurance can save you by protecting your property and the lender’s interests in case you’re unable to pay back the loan.

The amount of insurance is calculated based on the value of the property and the risk involved. This is a condition of the mortgage that the property is adequately insured. .

4. Taxes

This involves Stamp Duty and any other associated taxes and depends on the valuation of your property. Taxes are usually payable when purchasing the property. First time buyers may receive an exemption on this. 

What Percentage of Income Should Go To a Mortgage?

As a general rule of thumb, experts recommend that your mortgage cost not exceed 28% of your gross salary, also known as the 28% Rule.

This mortgage cost should include your monthly mortgage repayment, insurance, and homeowner association fees if there are any. 

You should ideally set aside 36% of your salary for debt payments, and the rest should be sufficient for your monthly expenses, savings or emergency funds.

Another similar rule is the 35% 45% Rule, which says your mortgage repayment limit should be 35% of your gross income or 45% of your net income after taxes.

Before deciding which one works best for you, we’d recommend assessing the mortgage affordability, as you shouldn’t take on more financial burden than you can handle.

That’s why it’s important to carefully compare your income and expenses before completing a mortgage application and purchasing a property. An experienced mortgage advisor can help you regarding this matter.

Depending on your income and the mortgage amount, you’ll need to reach a compromise between the monthly repayment amount and the payment term that is comfortable for you.

There’s rarely a one-size-fits-all solution to this.

Important Factors That Decide Your Mortgage Rates

So, now you know how mortgages work and what thumb rule the experts recommend for repayment. 

Now, with that in mind, let’s take a look at the factors that determine your mortgage rates:

1. Deposit Amount

A lender assesses your mortgage application by looking at the down payment or deposit amount. 

This is the one aspect of the mortgage process that gives you complete freedom to use to your advantage since you decide the amount you’re willing to put down.

The larger the down payment, the lower the mortgage amount and interest. You can also repay the loan faster as you’ll have less to repay.

2. Income 

The next factor in this equation is your income, allowing you to repay the loan. Lenders usually prefer applications where you have a greater amount of disposable income to allocate towards the loan repayment. 

You can get a loan with a lower allocation, but this will extend the repayment tenure, resulting in more interest repayment.

3.  Property Valuation

The lenders’ decision on the mortgage depends on the property value as well. 

Most lenders usually have a pre-approved list of properties they accept, and if yours isn’t listed, it might need to undergo a valuation survey before the loan is granted. The lower the loan to value, which is your mortgage amount against the property value, typically the lower interest rate you will repay. 

Frequently Asked Questions (FAQs)

1. What is the best way to lower monthly mortgage repayments?

There are a few ways to lower your monthly repayment amount, such as:

• Refinancing at a lower interest rate
• Enhancing your credit scores so ideally cheaper rate lenders are available. 
• Extending your mortgage term

Of these, the last will require you to pay more interest overall.

2. Which is better: a fixed or variable mortgage?

Every mortgage type has its pros and cons. If you want to be confident about the amount you must repay monthly, go with a fixed-rate mortgage.

With variable-rate mortgages, you might benefit from interest rates dropping, but there’s also a chance of their increasing, so you’ll need to factor that in. 

3. What’s the best term for a mortgage?

This entirely depends on how much you’re borrowing, for how long and at what interest rate. A shorter term will mean you’ll pay lesser interest, but monthly repayments will be extremely high. 

Conversely, a longer term will mean lower monthly repayments but more interest in the long term. It depends on which is more comfortable for you financially.