How does car finance affect your mortgage?
When looking at your outgoings to determine affordability for a mortgage, lenders will take into account your car finance repayments. Also, because car finance is a type of debt, any missed payments will affect your credit score and your eligibility for a mortgage.
Let’s get straight to the point: Yes, car finance can impact whether you will be approved for a mortgage and the rates you’ll subsequently be offered.
Car finance is a form of debt and will be treated as such by a mortgage provider. So once you get to the point of approaching a mortgage lender, they’ll consider the outstanding finance you have to pay when assessing your mortgage affordability and deduct it from your income.
Moreover, if you mismanage your car finance by making late payments, your credit score will be negatively impacted. This can significantly limit your options when applying for mortgages, affecting everything from the products open to you to the rates you’ll be offered.
Whether you currently have a car finance deal and are looking to take out a mortgage, or you are saving for a mortgage and considering taking out car finance in the meantime, we’ll explain your options in this guide.
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How does car finance affect a mortgage application?
If you apply for a mortgage while you have outstanding car finance to pay, lenders will factor in the repayments as part of your outgoings when assessing your mortgage affordability.
Because car finance will be a significant, regular expense, the repayments will affect how much mortgage lenders will let you borrow. The rationale is that the more you pay each month towards your car, the larger the proportion of your income is spent on car finance, and the less you have to repay your mortgage.
Mortgage lenders will assess whether you can afford your mortgage payments on top of your car finance payments and any other debts, as well as your usual expenses.
Lenders will also examine your credit rating carefully when you apply for a mortgage. Any missed car finance payments will appear on your credit score and could affect your mortgage application.
Can I afford a mortgage if I have car finance?
Mortgage providers will thoroughly scrutinise your overall financial situations when you enquire about one of their mortgage products to determine how much you can borrow.
Having car finance may limit the opportunities available to mortgage applicants. For example, having outstanding finance on your car may mean you get offered lower loan amounts and higher rates of interest by lenders who consider you a higher risk if you have multiple loan repayments to meet.
During a mortgage affordability assessment, the provider will inspect your bank statements, typically for the three months before you made the application, to get a handle on your spending habits.
If they see you are spending a few hundred pounds a month out of your salary on car finance, they may see you as having limited spending power. Your affordability for a mortgage, therefore, will be judged on the proportion of your salary that goes towards your car finance payments, any other debts, and your living expenses.
Lenders will look at something called a debt to income (DTI) ratio to determine how much of your income goes towards debt repayments, including car finance, loans and credit cards. You can calculate your DTI ratio here.
They will want to make sure your income is sufficient to comfortably cover your bills, loan repayments (including car finance) and living expenses, before offering you a mortgage.
Although not necessarily taken into account by the mortgage lender, bear in mind that all the associated costs of running your car, including petrol, road tax, insurance, breakdown cover and maintenance, will also affect how much you could afford to spend each month on a mortgage. Read our guide on how much it costs to run a car in the UK and use our in-built car cost calculator to understand exactly how much you are spending on your car each year.
Car finance and credit score – how does car finance affect my credit score?
When you apply for car finance, the lender will perform a hard credit check which will leave a mark on your credit score. Too many hard checks in a short period will affect your score, so you should try to minimise these and spread out any applications for credit.
Paying off your car finance on time will help to improve your credit score, as it shows you to be a responsible borrower. However, any missed payments will leave a mark on your credit score, which could make lenders warier of lending to you and stop you from getting the best rates of interest.
Before applying for any form of finance, you should look at your credit file to understand your financial circumstances and chances of being accepted for the loan you require.
This will allow you to improve any areas that may be dragging your rating down.
Your credit file will tell you of any debts that you have yet to repay and highlight any late payments. Fortunately, there are a number of immediate steps you can take to rebuild your credit history.
- Pay your bills on time
- Pay off debts as quickly as possible
- Reduce your total debts
- Limit credit checks on your file – try to wait at least 12 weeks in between
Alternatively, you can consider making an inquiry to specialist providers who offer mortgage deals to those with poor credit histories.
These providers will charge higher interest rates, so avoid entering into these agreements if you cannot afford the monthly repayments, as this could cause your debt to spiral.
How to improve your chances of getting approved for a mortgage
Whether you are currently making car finance repayments or you are thinking about applying for car finance, there are some things you can do to minimise the impact car finance could have on your mortgage application.
- Save up a larger mortgage deposit. The bigger your deposit, the less you will need to borrow with a mortgage and the better rates you can get. You’ll then technically have more to spend on something like car finance.
- Pay your car finance repayments (and any other loan payments or bills) on time. Any missed payments will harm your credit score, which would then affect your mortgage application.
- Wait until you’ve repaid your finance before applying for a mortgage. If you no longer have hundreds of pounds leaving your account each month, you reduce your total debt so you could afford to pay more on your mortgage.
- Rather than waiting until the end of your contract, you could pay off your car finance early. Bear in mind that you may need to pay early repayment fees.
- Don’t apply for car finance just before or just after your mortgage application. Too many applications for credit in a short space of time will leave a mark on your credit history and could harm your credit score.
- Choose a cheaper car that you can easily afford. The smaller your car finance payments, the smaller the impact they would have on your mortgage application. If you have an expensive, brand-new car with large monthly payments, lenders may be more cautious about your ability to repay a mortgage.
- Clear any other debts, credit cards and overdraft.
- Shop around. You are unlikely to find the best mortgage rates at the first lender you look at. Compare what’s on offer from different providers to find the best mortgage for you.
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Rhiannon is a financial writer for NerdWallet, with a particular interest in personal finance and insurance guides for consumers. Read more