Because of the risk associated with loaning people money for house purchases (in the form of a mortgage), lenders have to make sure that those to whom they’re lending are able to make the repayments each month.

To facilitate this, they carry out affordability stress tests, evaluating whether borrowers are comfortably able to repay their mortgage, taking into account income and outgoings.

Data used for this assessment includes:

• Gross and net income
• Personal loans, overdrafts and other debts
• Credit commitments
• Household expenses
• Dependent/childcare costs

Once armed with this information, lenders will then be able to more accurately calculate a debt to income ratio to help them work out how much you can borrow, with the aim being to prevent overborrowing and to stop you from falling into financial difficulties.

What are mortgage affordability stress tests?

One of the strategies that lenders use when working out mortgage amounts is affordability stress testing, where they assess whether you’d still be able to afford your monthly repayments if interest rates increased or if your personal circumstances changed in the future.

Stress testing can mean that you will ultimately be approved for less than the maximum amount you could borrow based on your current income levels. 

It might seem annoying at the time but the aim is to reduce the chances of you having your home repossessed – so it’s actually a positive step for lenders to take.

It’s also worth noting that you can still pass these affordability tests if you have accrued a certain level of debt, as lenders will factor in the amounts you need to pay back each month – and this can have an impact on how much you’re able to borrow.

However, if you can put off your house purchasing plans for some time, you can take steps to increase your mortgage affordability by settling your debts, reducing your expenses and improving your credit score.

How do mortgage affordability stress tests work?

Mortgage providers simulate certain scenarios by testing higher interest rates against your income, expenses and loan size.

In 2022, the rules changed so that lenders did not have to apply a mandatory three per cent increase to the mortgage rate when stress testing affordability.

Prior to this (and in an attempt to avoid a repeat of the 2008 financial crash), lenders had to implement stress tests of three per cent, meaning borrowers had to afford repayments if interest rates rose to three per cent above their standard variable rate.

Following a review, lenders were permitted to reduce stress rates to improve affordability, increase the maximum amounts lent to buyers and make mortgages more accessible, particularly to first-time buyers.

If you’d like to find out more about mortgages, stress tests and affordability rates, get in touch with the BR Needham team today.