Have self-cert mortgages been squeezed by the crunch?

What are self-cert mortgages and how have they been affected by the credit crunch? Christina Jordan finds out.

The credit crunch has affected all parts of the mortgage market, but self-cert lending has been hit more than most by the liquidity freeze, as lenders deem self-cert borrowers to be in the dreaded subprime category.

But what exactly is self-cert lending, who does it apply to and how has the market changed in the last year?

Self-cert mortgages are specialist home loans where the borrower does not have to prove their income. This traditionally meant the lender would accept an application where the borrower states their annual earnings without seeking to verify this – you do not need to provide payslips or accounts. However, the recent crunch and greater fears of losses mean lenders are now looking more closely at self-cert applicants.

Who is self-cert suitable for?

Self-cert mortgages are ideal for the self-employed, who do not have payslips and may not have the three years’ worth of audited accounts that lenders usually require.

For example, a start-up business or a sole trader who does not have fully audited accounts might find it difficult to get a mainstream mortgage. In addition, many self-employed people minimise their income (in full accordance with Generally Accepted Accounting Practice) to decrease their tax liability.

This means that on paper the self-employed can often seem worse off than they truly are. A mainstream lender may not be willing to offer a self-employed borrower a mortgage at a size that they could in fact comfortably afford.

But it is not just the self-employed that use self-cert mortgages. There is a growing army of contract workers in the UK, particularly in fields like construction and IT. While some of these may not strictly be self-employed they may still have problems proving their income if they work in short lucrative spells for different companies over one year.

Those with more than one source of income can also face problems getting a mortgage on the high street, particularly if one income doesn’t come from a job but from a trust or divorce settlement for example.

In addition, many employed people use self-cert mortgages. Salespeople and others who work on commission, or have variable incomes may find it difficult to secure sufficient lending based on their basic salary alone.

Employed borrowers might use a self-cert mortgage if speed is of the essence. Because the lender does not verify income self-cert mortgages usually go through quickly with few hold-ups, subject to valuation. In some cases it may be essential to have a mortgage sorted out quickly – such as if you are buying at auction.

The benefits and drawbacks

The benefits of self-cert mortgages are clear. They help many people to get a mortgage at the level they can afford without jumping through hoops imposed by mainstream lenders. While the criteria on the high street may suit most people, many fall outside of it and may only be able to buy a property with a self-cert loan.

But self-cert mortgages are specialist and by nature higher risk than mainstream borrowing. If the lender doesn’t check the income there is an increased risk that the borrower may not be able to afford repayments and therefore default on their mortgage. Lenders have to price for this risk which means self-cert deals are more expensive than mainstream mortgages. They also carry different criteria: deposits may need to be larger and fees are often higher.

Self-cert mortgage lenders and advisers have also been on the receiving end of bad press in the last few years.

Five years ago concerns started to appear about the self-cert sector.

A BBC expose featured cases where borrowers had inflated their income in order to buy houses that they couldn’t really afford, using a self-cert mortgage. Even worse, in some cases they were encouraged to do so by brokers. The self-cert market has attracted fraudsters in the past but regulators and the industry are working to combat this.

The Financial Services Authority (FSA) has now started to take a tough line with mortgage lenders and brokers about ensuring rules are not bent.

Mortgage brokers are being heavily fined for not providing the correct paperwork – even if the borrower is not a major risk – and those found to lie on forms to exaggerate applicants incomes are being barred from the profession.

"Firms and their managers will increasingly find themselves at risk of bans and heavier fines if they fail to take the necessary steps to prevent their firms being used for financial crime," said Jonathan Phelan, head of retail enforcement at the FSA, earlier this month after banning a Glaswegian mortgage broker.

How has the credit crunch affected self-cert lending?

For a start there are fewer lenders in the market. This is not so much because of a particular problem with self-cert lending but because many specialist self-cert lenders were also heavily exposed to the subprime market. A significant number of specialist lenders have exited the UK market or closed down altogether in the past ten months.

Criteria have also tightened in self-cert lending, as across the market. For example, the most competitive interest rates are now only available to self-cert borrowers who have a 25 per cent deposit to put down, and even then they are not cheap at around 7.5 per cent. On a typical 25-year repayment mortgage of £200,000 this would mean monthly repayments of £1,477. Fees have risen to around 1.5 per cent of the loan - £3,000 on the example given above.

One of the most competitive rates available (at time of writing) is a 5.99 per cent mortgage with Nationwide subsidiary, The Mortgage Works. However, it is only available to borrowers with a massive 50 per cent deposit and comes with a 2.5 per cent arrangement fee. On a £200,000 mortgage this would mean a £5,000 fee.

For those borrowers who do not have 25 per cent to put down, which on an average UK property represents £40,000 or more, there are also some self-cert deals available up to 80 per cent loan to value, or even 85 per cent. In other words you can still get a mortgage if you have 15 per cent or 20 per cent to put down – HBOS lenders The Mortgage Business and Bank of Scotland Mortgages are still offering self-cert products at 80 per cent and 85 per cent loan-to-value respectively.

If you don’t have a 15 per cent deposit you will not be able to get a self-cert mortgage in the current market. And the situation could be even worse for existing self-cert borrowers coming up for renewal on their current deal. If you don’t have 15 per cent equity in your property, which is possible if you bought in the last year or two, you will not be able to switch to a new product and will be forced onto your lender’s standard variable rate, which could be even more expensive.

Good advice

With any specialist mortgage advice is key and finding a quality independent mortgage adviser could be the difference between you being able to purchase your dream home or losing out.

Some advisers specialise in self-cert products and many of the lenders that operate in this market will only sell their products through these intermediaries, not direct to the public. So a broker may be your best and only option.