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Understanding interest income and expense

Understanding interest income and expense

In the UK, interest rates have now been so low for so long that even those who are, technically, old enough to remember the double-digit inflation of the 1980s, may have forgotten what it meant in practice.  It meant that cash deposits could bring could returns for savers – but borrowing could be eye-wateringly expensive.  With Brexit on the horizon and a “no-deal” looking close to certain, now may be a good time to go over interest rates, the theory and practice.

When currencies weaken, interest rates tend to go up

The Monetary Policy Committee of the Bank of England is tasked with keeping inflation at exactly 2%, but since this is the real world, it is allowed a 1% “margin of error” either way.  If inflation falls below 1% or rises above 3%, however, the Bank of England has to write an open letter to the chancellor explaining what it intends to do about it.  If inflation falls below 1%, the BoE has two options.  It can lower interest rates (assuming there is room for it to do so) or it can implement a programme of quantitative easing.  When inflation goes up, however, the BoE’s only option is to increase interest rates.

The Brexit question

If Sterling weakens due to Brexit (or for any other reason), it will increase the cost of importing goods from overseas.  If this cost is offset by gains elsewhere, such as inbound tourism, then the net effect may be zero (or close to it), but if it is not, then either the UK will have to cease (or severely limit) its imports and/or inflation will increase and in the latter case the BoE will be forced to raise interest rates to meet its 2% target. The only other option would be for the government to change the inflation target in some way, either by permitting inflation to go higher or by changing the means by which it is measured (such as the change from the Retail Price Index to the Consumer Price Index).  This is certainly possible, but it would be politically challenging.  Allowing inflation to rise would potentially impact everyone, including borrowers, whereas allowing interest rates to rise would benefit savers but hurt borrowers. Raising interest rates would also, at least potentially, make Sterling more attractive on the international markets, thus potentially bringing the value of the currency back up and lowering inflation naturally.  Having said that, this tactic did not work for John Major back in 1992, when the UK exited the ERM.

What this means in practice

In very blunt terms, Brexit could mean that savers finally get to see better returns on their cash deposits and borrowers start to see an increase in the cost of financing their debt.  Having said that, it is still very possible that savers will not see enough of a benefit to make it worth their while to readjust their asset allocation in favour of cash.  Borrowers, by contrast, will have no option but to swallow up the higher interest rates as they will be reflected across all lenders albeit to varying degrees.  This means that it is now critically important for borrowers to do everything in their means to pay down debt as quickly as possible and the higher the level of interest payable on the debt, the more important it becomes to pay it down.  If borrowers are unable to pay down their debt immediately, for example, if they have mortgages with long terms, then it may be worthwhile to switch to a fixed-rate product so at least they will have the security of knowing what their payments will be over the life of the product.  As always, however, individuals will need to do their own sums to see if this approach makes sense in their own situation. On clicking third party website link you will leave the regulated site of Coombes & Wright Mortgage Solutions Limited. Neither Coombes & Wright Mortgage Solutions Limited, nor Sesame Ltd, is responsible for the accuracy of the information contained within the linked site.    
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The basics of buy-to-let finance

The basics of buy-to-let finance

The arrival of the 2020 financial year will spell the end of what remains of mortgage interest tax relief.  Although this won’t be exactly news to buy-to-let landlords, it has been in the process of disappearing since April 2017, it may be a useful prompt to buy-to-let landlords to review their finances and make sure they have the right financial products for their situation.

Mortgages

Traditionally, repayment mortgages have been the more expensive option for landlords, but hey offered the benefit of allowing a landlord to build up real equity in their portfolio and, ultimately, to end up owning the property in its entirety.  Interest-only mortgages, by contrast, were more affordable and allowed landlords to maximize yield, thus increasing their income for the duration of the mortgage.  The abolition of tax relief on mortgage interest may, however, have changed this subtly.  The reason for this is that as a repayment mortgage progresses, the borrower pays less and less in interest and more and more of their repayments go towards the capital.  With an interest-only mortgage, however, the capital is never repaid (or at least not until the end of the mortgage), which means that the borrower continues to pay interest at the same rate throughout the course of the mortgage.  In the old days, this was largely irrelevant, as mortgage interest could be set against tax, but now that the old system of tax relief has now been replaced by a system of flat-rate tax credit, landlords could find that the difference is meaningful even without the benefit of building up equity.  As always, people need to do their own sums, but it is definitely worth checking.

Insurance for your property

In addition to taking out standard insurance on the fabric of the building, landlords may want to consider whether or not they want to cover the contents.  Even if the property is let unfurnished, it will presumably have at least a kitchen and a bathroom and these can be expensive to replace if your tenants leave them damaged.  They can also cause expensive damage to your tenants’ property if they malfunction, for example, if a washing machine springs a leak, so you might also want to consider protecting yourself against that.  Finally, although this is not, technically, protecting your property, you might want to take out insurance against loss of income from it, be it through non-payment or through voids.

Insurance for yourself

Harsh as this may sound, protecting your property starts with good tenant selection.  There is simply no two ways about this.  There is, however, a potential complication in that landlords need to select tenants in a way which complies with the law, in particular the Equality Act 2010.  This may seem self-evident, but it can be surprisingly easy to act in a way which may be considered discriminatory, or at least perceived as discriminatory by a potential tenant, especially if a landlord is nervous about falling foul of the “Right-to-Rent” rules.  Lettings agents may be useful here, but if landlords choose not to use them (or even if they do), it may be advisable to take out some form of legal expense insurance for landlords.  This may also be useful if landlords have to deal with problem tenants.  Last, but by no means least, landlords may wish to think about insuring their own health, especially if they are active in the management of their portfolio (as opposed to leaving it to lettings agents).

A final point

If you are using a financial product for a buy-to-let property, then you must take out products which are intended for that market, not products for the residential market.   Your property may be repossessed if you do not keep up repayments on your mortgage. The FCA does not regulate some forms of buy to let mortgages.   The FCA does not regulate letting agents and we act as introducers for them.  
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Why going direct for a mortgage can cost you a lot of money

Why going direct for a mortgage can cost you a lot of money

Over the last few years, there’s been a big marketing effort on the part of the “go-direct” brands.  The irony of this is that actually these brands are not encouraging you to “go direct”, they are encouraging you to use their website to make your decision instead of either actually going direct or going to a proper, human mortgage broker, who can give people professional advice customised to their situation.  To see how this works in practice, let’s look at the three different situations.

The “go-direct” brands

The “go-direct” brands are basically, affiliate-marketing sites.  That means they get paid a commission for referring people who then go on to become customers.  In other words, they work on exactly the same basis as the mortgage brokers they advise you to avoid using.  They simply use computer algorithms to try to replicate the knowledge and expertise of a financial professional.  Even though many jobs are currently being replaced by computers and there may come a time when artificial intelligence can do as good a job as a highly-skilled human, that time is still far off and as, when and if it does come, the “go-direct” sites are still likely to offer limited options in comparison with going to a human mortgage broker for the simple reason that some companies refuse to work with them for various reasons, many of which revolve around the fact that these sites encourage people to compare deals on headline price rather than looking at the specifics of the offer and the overall value it could provide.

Genuinely going direct

Genuinely going direct can be a perfectly feasible option, if you know your way around the mortgage market.  If, however, you don’t you can spend a whole lot of time and energy looking for the best deal and still wind up not finding it or finding it and not being accepted for it.  An often-overlooked fact about mortgage brokers is that they will not only make sure that they only suggest deals for which you have a decent chance of being accepted, but they will help to make sure that your application ticks all the right boxes (literally and metaphorically) to maximise your chances of being accepted and they may even have contacts with lenders which they can use to help turn a borderline case into a yes.

Going via a mortgage broker

There are basically two sorts of mortgage broker.  One sort charges a direct fee to the client.  The other works on commission.  Neither sort is right or wrong and neither is better or worse than the other.  Both sorts of mortgage broker will be working on behalf of the client and aiming to get them the best, possible mortgage deal.  Their continued success depends on having a constant stream of satisfied customers (ideally customers who are satisfied enough to recommend other people).  Mortgage brokers are, essentially, the average person’s guide through the labyrinth of the mortgage market.  They can be very useful even if you’re “the perfect buyer” and hence in a solid position to find a good deal for yourself.  Mortgages may carry relatively low-interest rates (meaning as compared to standard consumer debt) but they are usually for large amounts and hence the difference between a good deal and a great deal can add up to be an awful lot of money over the years.  If you already know you are a less-than-perfect buyer and/or you are aiming to buy a more niche property (or to build your own home), then the more you should think about going to a mortgage broker rather than trying to go direct. Your property may be repossessed if you do not keep up repayments on your mortgage.
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Owning a home is still possible

Owning a home is still possible

It’s no secret that it can be tough to get on the property ladder, either as a genuine first-time buyer or as someone who’s bought before but gone back to renting for whatever reason, for example, to spend some time abroad.  The good news is that, in spite of all the challenges, it is possible.  Here are some tips to make it happen.

The less you spend on rent the more you can save

This may seem like stating the blindingly obvious but it’s one of the many realities of life which can be a whole lot easier in theory than in practice.  To be perfectly blunt, putting together the deposit you will need to buy a home of your own is likely to be a lot easier if you are prepared to make compromises on where you live in the present.  Living with your parents may be the ultimate example of this (their house, their rules) but this is not necessarily a practical option for everyone. For those living away from home, making compromises may involve choosing a smaller space over a bigger one, accepting a longer commute, or choosing a less-desirable area over a more chic one.  Obviously, all of these options have to be subject to the common-sense test.  There is a limit to how small a space a person can reasonably live in for an extended period of time and there is no point in choosing to live in a place where the housing is affordable but the commute is long if it means that you are just swapping housing costs for commuting costs (and time) and you clearly want to avoid living in a place which is actively unsafe.  All the same, however, all things being equal, you should probably give preference to the place with the lowest housing costs as rent is typically a substantial expense and hence anything you can do to reduce it can make a real difference to how quickly you can save for a deposit.

Always look for ways to increase your income

The nature of your employment will largely determine how feasible it is for you to earn extra money in your main job, but if you’re in a position where you get a fixed salary for (officially) fixed hours and have little scope to earn extra on top and you’d prefer to stay in that job, at least for the foreseeable future, then you can still look for other ways to earn extra money.  Getting a second job can bring all kinds of complications (including your current employer being unhappy about it, you new employer making requests which conflict with your main job and your tax being messed up, although this last should not happen), but there is nothing to stop you setting yourself up as self-employed and building your own little side-hustle.  Just remember that you will need to register as self-employed and pay taxes on whatever you earn.

Take care of your credit rating

If you’ve saved and worked to put together a solid deposit, it would be heartbreaking to be turned down for a mortgage because of silly mistakes such as going over the limit on a credit card or missing a payment.  Standard advice here is to put all payments on Direct Debit so that you never miss one, however, there is an alternative approach, which may save you a little money, at the expense of some organization.  Put as many payments as you can on manual and pay them the moment you have the money to do so, for example on payday or when you get your earnings from your side hustle (remember to set aside money for taxes).  This will minimize the interest you pay. Your property may be repossessed if you do not keep up repayments on your mortgage.  
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Understanding Interest Rates

Understanding Interest Rates

In the UK, interest rates have now been so low for so long that even those who are, technically, old enough to remember the double-digit inflation of the 1980s, may have forgotten what it meant in practice.  It meant that cash deposits could bring could returns for savers – but borrowing could be eye-wateringly expensive.  With Brexit on the horizon and a “no-deal” looking close to certain, now may be a good time to go over interest rates, the theory and practice.

When currencies weaken, interest rates tend to go up

The Monetary Policy Committee of the Bank of England is tasked with keeping inflation at exactly 2%, but since this is the real world, it is allowed a 1% “margin of error” either way.  If inflation falls below 1% or rises above 3%, however, the Bank of England has to write an open letter to the chancellor explaining what it intends to do about it.  If inflation falls below 1%, the BoE has two options.  It can lower interest rates (assuming there is room for it to do so) or it can implement a programme of quantitative easing.  When inflation goes up, however, the BoE’s only option is to increase interest rates.

The Brexit question

If Sterling weakens due to Brexit (or for any other reason), it will increase the cost of importing goods from overseas.  If this cost is offset by gains elsewhere, such as inbound tourism, then the net effect may be zero (or close to it), but if it is not, then either the UK will have to cease (or severely limit) its imports and/or inflation will increase and in the latter case the BoE will be forced to raise interest rates to meet its 2% target. The only other option would be for the government to change the inflation target in some way, either by permitting inflation to go higher or by changing the means by which it is measured (such as the change from the Retail Price Index to the Consumer Price Index).  This is certainly possible, but it would be politically challenging.  Allowing inflation to rise would potentially impact everyone, including borrowers, whereas allowing interest rates to rise would benefit savers but hurt borrowers. Raising interest rates would also, at least potentially, make Sterling more attractive on the international markets, thus potentially bringing the value of the currency back up and lowering inflation naturally.  Having said that, this tactic did not work for John Major back in 1992, when the UK exited the ERM.

What this means in practice

In very blunt terms, Brexit could mean that savers finally get to see better returns on their cash deposits and borrowers start to see an increase in the cost of financing their debt.  Having said that, it is still very possible that savers will not see enough of a benefit to make it worth their while to readjust their asset allocation in favour of cash.  Borrowers, by contrast, will have no option but to swallow up the higher interest rates as they will be reflected across all lenders albeit to varying degrees.  This means that it is now critically important for borrowers to do everything in their means to pay down debt as quickly as possible and the higher the level of interest payable on the debt, the more important it becomes to pay it down.  If borrowers are unable to pay down their debt immediately, for example, if they have mortgages with long terms, then it may be worthwhile to switch to a fixed-rate product so at least they will have the security of knowing what their payments will be over the life of the product.  As always, however, individuals will need to do their own sums to see if this approach makes sense in their own situation. On clicking third party website link you will leave the regulated site of Coombes & Wright Mortgage Solutions Limited. Neither Coombes & Wright Mortgage Solutions Limited, nor Sesame Ltd, is responsible for the accuracy of the information contained within the linked site.    
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How applying for a mortgage is like applying for a job

How applying for a mortgage is like applying for a job

These days, you don’t necessarily have to go to an interview to get a mortgage the way you usually do to get a job, but other than that the processes are, perhaps surprisingly, very similar.  In a recruitment scenario, the recruiter is essentially asking themselves three basic questions:
  • Can you do the job?
  • Will you do the job?
  • Will you fit in?
This is also what mortgage lenders want to know, so your mortgage application should aim to convince them that in your case the answer to all three questions is a solid yes.

Cover your basics, fill in the application the way you are asked

Employers have long used various tricks to work out which job seekers actually read adverts and follow instructions and which do not.  One of those tricks is to specify how an application is to be submitted.  In the old days it was often colour of ink (black not blue), these days it can be to include a particular word in your cover letter.  Mortgage lenders aren’t usually looking to weed out candidates who can’t follow instructions, but they are likely to be using computer systems to process part, if not all, of an application and hence they may specify how data is to be entered into each field.  If they do, make sure you follow the instructions.  Also, make sure that any data you enter does completely answer the question, otherwise the best you can hope for is that a potential lender requests further information.  They may, however, just decline you because you come across as unsuitable.

Can you do the job?

Remember that these days mortgage lenders are obliged to look beyond your headline income figures and think about your likely ability to repay a mortgage over the long term.  This means you want to do anything and everything you can to convince them that you will be able to bring in an income over the lifetime of your mortgage.  For example, if you had plans to upskill yourself and/or to start a side hustle with a view to bringing in extra money (at some point if not immediately), then it would be a great idea to set the ball rolling before you even applied for your mortgage.

Will you do the job?

A mortgage lender is going to look for evidence of how well (or badly) you have managed your money in the past, which means that they’re going to take a close look at your credit record.  Do everything you can to make this look impressive.  If you’ve had a chequered financial history, time may be your friend.  Negative markers such as late payments drop off after a certain time.  If you know you have them, you might want to check when that time is and see if you can hold off applying for a mortgage until after it is past.  Once it is past, make sure it is removed correctly.  Even if you have a perfect financial history, it’s still a good idea to check your credit record for mistakes (they happen) or to see if you can make any small touch-ups which could help you (like making sure you’re on the electoral register).

Will you fit in?

Does your application fall within the lender’s “comfort zone”?  In blunt terms, a lender needs to think about how easy it would be to recoup their money in the event of a foreclosure.  Standard, residential properties in popular locations tend to be relatively easy to sell on.  Niche properties and properties in more out-of-the-way locations can be rather more of a challenge to sell.  Similarly, buyers actually living in the properties, or at least in the UK, are easy to trace, whereas expat buyers may be perceived as rather more of a risk.   Your property may be repossessed if you do not keep up repayments on your mortgage.  
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