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Mortgage Lender Criteria for Interest-Only Lending

A look at the standard lender criteria to accept an interest-only borrowing applicant and how qualification policies may differ from traditional repayment home loans.

Almas Uddin
Almas Uddin

Founder and Mortgage Advisor

Almas Uddin2024-06-15
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What is some of the criteria for an interest-only lending

Repayment mortgages are the norm these days, with interest-only lending seen as a riskier option. However, there are plenty of lenders offering competitive interest-only products, and if you are considering this type of mortgage, it is essential to understand how it works.

In this article, we will run through how interest-only mortgages are structured, whom they are suitable for, and how to ensure you get the best rates.

For more help and advice finding interest-only mortgage lending contact mortgage brokers on 0330 304 3040 or email us at [email protected].

How Do Interest-Only Mortgages Work?

On this type of mortgage, you pay only the interest every month, with the capital balance - the amount you initially borrowed - falling due for repayment at the end of the mortgage term.

Typically, the mortgage runs for 25 years, although this can be shorter, and you will need to have a way to repay the balance when the mortgage ends.

Most lenders will need to know your exit strategy - or how you plan to pay them back. This could, for example, be through:

  • A property sale (this property, or another)
  • Inheritance
  • Investment income
  • ISA savings
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Based on your yearly income,
you may be able to borrow

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Most lenders will let you borrow 4.5 times your annual salary so, as long as you have a standard 10% deposit, you should be able to borrow this much.

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Depending on your personal circumstances, some lenders may let you borrow 5 times your salary.

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Lenders usually cap the amount they lend at 5.5 times your salary, so it’s unlikely you’ll be able to borrow more than this.

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Who Can Apply for an Interest-Only Mortgage?

You can apply for an interest-only mortgage on a residential property, as long as you fall into the criteria that your lender can accept.

Lending rules for interest-only mortgages are relatively strict, and a mortgage provider will need to know your repayment strategy, as well as meeting other criteria:

  • Affordability evidence to show you can afford the mortgage.
  • A requisite deposit amount.
  • Proof of your exit strategy.

What Happens When my Interest-Only Mortgage Ends?

When you take out an interest-only mortgage, you need to demonstrate your repayment vehicle that will cover the original amount owed.

There are several options available when your mortgage term ends:

  • Apply for a remortgage to extend the loan term.
  • Consider equity release options for homeowners over 55.
  • Remortgage with another lender.
  • Repay the mortgage balance from savings or your pension fund.
  • Sell the property to repay the debt.
  • Switch to a repayment mortgage through another lender or product.

What Plan Can I Offer as a Repayment Strategy on an Interest-Only Mortgage?

Different lenders have different policies, and there will be repayment strategies that some accept, and others do not.

High street banks typically ask for at least one of the following repayment strategies:

  • Property Sale: usually selling your current property and downsizing to a smaller home. Many lenders will not accept this repayment strategy or may require minimum equity of between £100,000 and £200,000.
  • Investment Funds: typically ISA savings, investment bonds, the sale of stocks or shares, or the sale of unit trusts. In any case, the lender will need to see evidence of the investment value, and the projected value at the end of the term.
  • Pension Lump Sums: another option is to take advantage of the 25% tax-free pension fund withdrawal, and use that cash to repay your mortgage. However, note that if you withdraw more than 25%, you will be taxed on the remainder.
  • Endowment Policies: many lenders will reject this repayment strategy, as in the past they have failed to grow as projected, meaning a borrower cannot repay their mortgage. You will need to negotiate with your lender to repay via an endowment policy, with stable projections as to its future worth.
  • Asset Sales: if you hold other assets, such as another property, investment or valuable, they may be used as an exit strategy whereby a sale would raise funds needed to repay the mortgage.

Does My Interest-Only Mortgage Strategy Need to be a Certain Value?

The repayment strategy should be equivalent to the value of the amount borrowed to purchase your home.

Generally, assets grow in value over time, so you don't necessarily need to have the cash to hand - but do need to demonstrate that growth will be sufficient to repay the mortgage at the end of the term.

Some lenders will enforce a minimum value repayment strategy, but there are lots of options here. If you have been turned down for an interest-only mortgage on the strength of your repayment strategy, call Revolution Finance Brokers on 0330 304 3040, and we will run through the options.

Do Landlords Need a Repayment Strategy for an Interest-Only Buy to Let Mortgage?

No, usually not - because this is an unregulated mortgage product, and lenders don't need to pass the same checks as for a residential interest-only mortgage.

Landlords can use the rental income to pay the interest or to pay top-ups on the mortgage balance to bring down the total outstanding on the capital loan.

Usually, the mortgage term will come to an end, and the balance will need to be paid. This can be through selling the property, remortgaging or refinancing.

If you reach the end of a BTL mortgage term and have exceeded an age cap with your lender, and are therefore unable to secure a remortgage, give us a call, and the Revolution team will recommend lenders who can offer a remortgage deal.

Is There a Maximum I Can Borrow Through an Interest-Only Mortgage?

The maximum value will depend on several factors:

  • How much you earn.
  • What deposit you have available.
  • Your credit history and rating.
  • What sort of property it is - i.e. residential or buy to let.
  • Your income structure.

How Much Deposit Do I Need for an Interest-Only Mortgage?

The deposit depends on the Loan to Value ratio - i.e. how much you want to borrow in proportion to the value of the property.

For example, if you want to buy a home for £300,000 and have a deposit of £30,000, that means you have a 10% deposit and need a 90% LTV mortgage.

Lenders have different policies on maximum LTV ratios, and you can find providers with high LTV caps if you have a small deposit, by working with an experienced broker.

Usually, lenders will offer a maximum LTV of 75% - so you will need a 25% deposit. A smaller proportion will accept a 20% deposit, and others can offer to lend against a 15% deposit, although this depends on meeting other vital criteria.

Does My Annual Income Impact How Much I Can Borrow Interest-Only?

It does - while most high street lenders won't have a minimum annual income threshold, they will need to see that you can afford the repayments.

Some interest-only mortgage providers only accept applicants with high incomes, and others will rely on the strength of your exit strategy to make a decision.

There is also an alternative option to take out a 'part and part' mortgage. This product is a combination of repayment and interest-only borrowing, with some of the lending repaid, and some on an interest-only basis.

Where a lender does require a minimum income, it tends to be around £50,000 for a single applicant, or £75,000 for a couple.

What Type of Income is Accepted by Interest-Only Mortgage Lenders?

Below are the typical types of income considered by mortgage providers when calculating how much they can offer to lend:

  • Salaries - most lenders use your annual salary to calculate the maximum they can lend.
  • Variable income - additional pay, such as overtime or bonuses, can be included, depending on the lender.
  • Self-employment profits - a lender will consider your net profit, and multiply it by their policy multiple to arrive at a maximum.

If you work part-time, or in a temporary role, you will usually find that the lender will add together all income streams to calculate an annual average income.

Retired applicants will be asked for a copy pension statement to demonstrate their regular income.

How Much Can I Afford to Borrow on an Interest-Only Mortgage?

Lenders tend to work at a multiplier of four times your annual income to decide on the maximum they can lend. Specialist lenders can lend up to five or even six times your salary.

Maximum mortgage values depend on the lender - for example, the below table shows three lenders with different affordability calculations, and how the maximum loan value changes depending on their policies:

Lender

Affordability Calculation Basis

Applicant Annual Salary

Maximum Interest-Only Mortgage Offer

A

4 x annual income

£45,000

£180,000

B

5 x annual income

£45,000

£225,000

C

6 x annual income

£45,000

£270,000

How Does the Value of my Repayment Vehicle Impact my Maximum Mortgage Offer?

Generally, a lender will calculate the value of your repayment vehicle, and use that to determine the maximum they can lend.

Affordability on an interest-only mortgage will always be no more than the total of your assets, savings, or investments.

If you plan to repay your interest-only mortgage through a property sale, and the equity in the property is £150,000, then a lender can only lend up to £150,000, as this is the value available to repay the debt.

In some cases, the lender will cap the mortgage at a fixed percentage of the equity, in which case they will offer less than £150,000.

Say you wanted to sell the property to repay the interest-only mortgage. In that case, you need to have a minimum amount of equity. Some lenders set this minimum at £100,000, and some as high as £200,000.

How Does a Part Repayment and Part Interest-Only Mortgage Work?

A blended mortgage is a way to split the lending, with some of the balance paid on a repayment basis, and the rest interest-only.

This is a lower risk to the lender, and therefore the eligibility criteria are less stringent.

Is There a Minimum Income for Buy to Let Mortgages?

If you are taking out an interest-only BTL mortgage, then some lenders will stipulate a minimum annual income. Other lenders will base a decision on what the anticipated rental income looks like.

The process of negotiating the amount you can borrow can be complicated, so it is essential to consult an experienced broker to manage this part of the mortgage application process for you.

Almas Uddin
Almas Uddin

Founder and Mortgage Advisor

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The content included in our articles, blogs, web pages and news publications is based on information accurate at the time of writing. Note that policies and criteria can change regularly throughout the UK mortgage lending market, and it remains essential to contact the consultation team to receive up to date guidance. The information included on the Revolution Brokers site is not bespoke to any circumstances or individual application scenarios and therefore is not intended to be used as financial advice. The content we share is designed to be informative and helpful but cannot be relied upon to provide individual advice relevant to your mortgage requirements. All Revolution team members are fully qualified, trained and experienced to provide mortgage advice of an independent nature.

We collaborate with lenders and providers who are regulated, authorised and registered with the Financial Conduct Authority (FCA). Should you require specific mortgage borrowing types, some products such as buy to let mortgages may not be FCA regulated. The Revolution team can provide further information about regulated and unregulated lending as required. Please remember that a mortgage is a debt which is secured against your home or property. Your home can be at risk of repossession if you do not keep up with the repayments or encounter any other difficulties in managing your mortgage borrowing responsibly. This also applies to any remortgage or home loan secured against your property, including equity release products.

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