5 Percent Mortgage
A common challenge for first-time buyers is affordability. While it’s common for lenders to want to see at least a 10% deposit for a mortgage, many don’t have this money available while they are renting.
The 5% deposit mortgage allows buyers to borrow 95% of their property’s value, making property ownership more accessible for buyers with smaller deposits.
This article is going to take you through everything you need to know about this recent scheme:
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What it is
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Who it’s for
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The conditions
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The pros and cons
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How to get the best deal
So, let’s start with the most important thing you need to know about low-deposit mortgages…
What is a 5% mortgage
A 5% mortgage is a mortgage that uses a deposit at 5% of the total value of the loan. They’re a government-backed scheme that offers a lower capital requirement if you meet the conditions on:
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Your income status
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Your credit rating
For example, a £200,000 mortgage would only require a £10,000 deposit – as well as being secured against the property you buy with the mortgage.
This is notable because it’s a much lower deposit than you’d see on a typical mortgage. An average mortgage typically requires a 10-20% deposit, so this is a marked reduction in deposit.
Why does the 5% mortgage exist, then?
These mortgages are government-backed and are largely reserved for first time buyer mortgages because they’re designed to help you get on the property ladder.
In fact, many providers – such as banks – market these mortgages towards younger people with stable jobs (such as a profession or trade).
Restrictions on First Time Buyer Mortgages
While the goal of the 5% deposit is accessibility, this does come with restrictions. Many providers will restrict these 5% first time buyer mortgages to specific types of properties – often prohibiting the purchase of new-build houses and flats.
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You must be buying a property to move into – no second homes, letting, or commercial properties.
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Properties must be below £600,000, but typically less, depending on the provider
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You can only get a capital repayment mortgage. No interest-only mortgages.
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You will require a strong pristine credit record, and strictly within 4.5 times your income
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New-build properties – especially flats – are not eligible for 5% mortgages
These restrictions exist to reduce the risks associated for both the bank and the lender. They focus on stability and build a higher security for the banks. For you, they reduce the risk of being caught on a volatile interest rate on a more valuable or less-stable property.
The bank wants to know the long-term viability of your credit, your income, and the stable market-value of your property. These restrictions – once again – cover the risk that lenders are taking with such large quantities of money.
Individual lenders also have their own stipulations on top of these market-wide changes.
Who are 5% mortgages For?
5% mortgages are typically aimed at first time buyers with stable jobs but poorer access to lump sums of cash.
This could be due to young age or a recent change in employment, where reliable income is the main form of risk-management.
These are also typically younger people, and the trade-off for a lower deposit is a longer mortgage period and higher rates. This makes a lower deposit mortgage more accessible because of the length of the mortgage and overall interest.
This allows younger people to get onto the property ladder but does typically mean a higher total payment across the whole mortgage.
Rates on a 5% mortgage
Rates on a 5% mortgage are higher for 2 major reasons:
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There’s more risk to the lender with a lower deposit, so they compensate this with interest
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The lower deposit payment means you’re paying interest on 95% of total loan value
This leads to 5% mortgages having potentially higher total repayments, which is reflected in the rates.
These are used to offset the risk that a lender is taking when dealing with lower deposits and (often) younger people with less capital and a less secure career.
Not only are rates typically higher overall, but the packages built around the type of mortgage that you take are different. Fixed-rate mortgages are offered with a shorter fixed term compared to those with higher deposits – usually around 2-5 years instead of 5-10 years.
The same applies in variable-rate mortgages, and the volatility that comes with them. SVRs (Standard Variable Rates) kick in earlier, and the ‘tracker’ mortgages built around the bank of England base rate are shorter in the ‘protected’ periods.
Overall, these rate changes reflect the larger risks the bank takes, but they’re also leveraged against the idea that you'll earn more in the future than you do now.
How much can you borrow on a 5% mortgage?
Most 5% mortgages are capped somewhere between £300,000 and £500,000 – depending on the provider. Higher value loans are riskier for providers and the difference between a 5% and 15% deposit increases rapidly as total loan amount increases.
For example, on a £200,000 total loan, the difference between deposits is £20,000 (£10,000 vs £30,000).
However, the difference between these same percentages on a £500,000 loan is more aggressive: £25,000 vs £75,000. A shortfall of £50,000.
Banks and other providers like to have a stable flow of cash on-hand for lending out. Lower deposits destabilise their immediate cash holdings and leave them exposed to more risk if they are required to repossess your property.
Limiting the amount you can loan is an important part of this process. If you’re looking for a larger mortgage, then the 5% loan is often inappropriate, and you may not fall under the provider’s targeted ‘first time buyer’ demographic. There are worse problems to have!
Advantages
So, what are the pros of a 5% mortgage? What makes them so popular?
Lower start-up cost
First and foremost, the first time buyer mortgage is popular because – as the name suggests – it’s easier to get when you’re looking to get on the property ladder.
The accessibility of the mortgage offsets the long-term costs for many people. While this depends on your situation, it’s assumed that incomes are likely to increase over time and the additional interest rates provide a buffer, so banks can offer more mortgages to more buyers.
This is obviously designed for the young professional or tradesperson aiming to buy their first home. It’s also suitable for long-term renters who are keen to buy for the first time.
Easier to get onto the market
Getting onto the property market is often better when it’s done sooner – though this depends entirely on the market.
For many people, the use of a 5% mortgage is getting in early on the stability and asset-building that comes with owning property. It can be one way of offsetting a belief that the value of a given property will rise with time, for example.
The house market doesn’t always rise, but many people prioritise buying homes when they can. This has made the accessible first-time buyer mortgage popular.
Can start building equity sooner (vs renting)
Beginning your mortgage earlier offsets some of the costs of renting, as any money paid into a mortgage is money not spent on rent. This means getting a concrete increase of equity in your own property, rather than paying someone else.
This doesn’t always work out positively, however – sometimes, renting may be the right choice if you’re looking to build a larger deposit.
The trade-off between these two factors is very personal. However, it’s proven popular with new buyers to begin building equity earlier in life – where house price increases are often most valuable.
Built with first time buyers in mind
The entire package around the 5% mortgage is built with the specific demographic in mind. The ‘financial product’ is tailor made for first timers. Many providers offer specific support packages designed to make the mortgaging process easier.
This kind of administrative support may not have a monetary value to you, but it does tend to be a positive when you’re confronted with the reams of legal documents a mortgage demands.
What to consider
Despite increased accessibility, these kinds of 5% mortgages aren't all sunshine and rainbows. They come with very real concerns that you need to balance up against their ‘pros’ – and take seriously.
Higher Total Repayment
The complete cost of a 5% mortgage will be higher than most other mortgages. It’s mathematically inevitable because:
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You’re typically paying higher interest rates, and
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You’ll be paying them across a greater loan (because of the smaller deposit)
This means you'll likely be paying significantly more across the lifetime of the mortgage. This can be worthwhile if your long-term gain on the property and your future spending are in-line with the long-term costs of the mortgage.
This also costs you time; a smaller deposit will typically extend the repayment period by around 10 years (comparing 5% vs 15% mortgages). Or, alternatively, the costs will rise…
Higher total interest payment
Not only will you be paying more across the total loan period, but specifically you’ll be spending more time paying off the interest. The capital(or principal) of the loan is the money you borrow (e.g. the £190,000 borrowed on a £200k property using a 5% mortgage).
The interest is the ‘sweetener’ for the provider, like their fee for letting you borrow so much.Over time, the interest is likely to be significantly higher on a 5% deposit loan.
For the same £200,000 mortgage, you could be paying around £330,000, depending on interest rates. This is compared to around £300,000 based on a 15% deposit, or £282,500 based on a 20% deposit. In these higher deposit mortgages, you may save up to £80,000 on interest payments alone.
*figures used as examples only
Likely higher interest rate
The reduced support for fixed-rate mortgages on a first-time buyer loan reduces your protections if the bank of England base rate rises. With reduced fixed-rate options, smaller deposit mortgages can lead to more volatility across the lending period.
This reduced protection from the often-turbulent markets is a major drawback for first time buyers. It may lead to paying higher fees, depending on how the economy and central bank change over time.
Less favourable variable terms
You may find you get a significantly reduced selection of options when it comes to rates on your mortgage when your deposit is lower. While a standard mortgage often has fixed-rate options from 5-10 years, a low deposit first time buyer’s mortgage may only offer 2-5 years.
Equally, your variable-rate mortgages may come with different stipulations and a different rate to ‘normal’ mortgages.
This is at the leisure of your provider, but you’ll typically have fewer options and less favourable terms when placing a smaller deposit.
FAQ
Can I get a mortgage with a 5% deposit?
Yes – you may be eligible to get a 5% deposit mortgage if you are a first time buyer with a strong financial situation, looking to secure a specific kind of property.
However, you should read the details carefully to make sure that ‘getting in early’ is worth the associated long-term cost, and speak to a mortgage advisor if you’re unsure.
Who can get a 5% mortgage?
5% mortgages are for people with good credit and a stable income, looking to buy their first full-time residency home – as long as it’s not a new-build.Individual lenders may still be looking for specific applicants, however, so that alone won’t get you approved.
Strong financial basics and a stable income and property are the main markers. Beyond that, providers look for a good application – which leads many first time buyers to use a mortgage advisor.
What’s the minimum deposit I can pay for a mortgage?
Typically, the lowest possible deposit you can set down for a mortgage is 5% of the total value of the loan. Deposits below this level simply aren’t viable for most lenders, as they take on more risk with a lower deposit.
A lender makes more from a lower deposit mortgage over time, but they also have to deal with the risk that you won’t repay and they’ll have to go through the (expensive) process of repossession.
What are the drawbacks of a small mortgage deposit?
The main drawbacks of a low deposit mortgage are higher total payment and a longer lending period, as well as a limited set of rates.You pay for accessibility in flexibility.
Smaller deposits come with less leverage against lenders because they’re taking higher risks. This means you’ll pay more, have fewer options, and you’ll be taking on a larger commitment in time and interest payments.
This is why it’s so important to weigh up whether the 5% mortgage structure is for you – or not.
Final thoughts
5% mortgages are an accessible but very specific product – they are perfect for some situations but too volatile for others. Accessibility comes with its own trade-offs and it’s important to be conscious of the possible risks you’re taking.
If you find that the small deposit loan is right for you, you need to get the right mortgage. You can do that more easily with Fair Mortgages’ market comparisons – letting you get a bird’s eye view of rates and providers.
Make the mortgage process easier for yourself –get the information you need to start your mortgage process right.