A low deposit mortgage allows you to secure a home loan with a deposit of 5% or less of the property’s value. This results in a high loan-to-value (LTV) ratio, as you are borrowing most of the purchase price.
Many first-time buyers choose this option to enter the property market sooner. However, it is essential to consider the benefits and risks before proceeding.
The Benefits of a Low Deposit Mortgage
A key advantage of a low deposit mortgage is the ability to buy a property sooner. Saving for a large deposit can take years, particularly with rising living costs. A smaller deposit speeds up the homeownership process.
Key Benefits:
You can buy a property sooner rather than waiting to save a larger deposit.
A smaller deposit means you do not need to save as much upfront.
Some government schemes, such as the Mortgage Guarantee Scheme, help make low deposit mortgages more accessible.
It is an option for those with stable incomes but limited savings.
While a low deposit mortgage has advantages, there are risks involved. A major concern is negative equity, which occurs when the mortgage debt exceeds the property’s value.
Example of Negative Equity:
You buy a home for £200,000 with a 5% deposit.
Your mortgage is £190,000.
Property prices drop, and your home is now worth £180,000.
You owe more than the value of your home.
Negative equity can make it difficult to remortgage or move home. Lenders may also offer fewer deals to borrowers with high LTV mortgages.
Additional Risks:
Higher interest rates due to increased lender risk.
Limited mortgage product availability after the fixed term.
Property market fluctuations affect your home’s value.
Are Interest Rates Higher for Low Deposit Mortgages?
Interest rates are generally higher for low deposit mortgages. Lenders charge more to offset the risk of lending a large sum compared to the property’s value.
Borrowers with a higher deposit usually receive better mortgage deals with lower interest rates.
A 5% deposit mortgage, for example, may have an interest rate of around 6%, while a 25% deposit mortgage might secure a rate closer to 4%.*
Ways to Reduce the Risks of a Low Deposit Mortgage
There are several strategies to help manage the risks of a low deposit mortgage:
Overpaying on Your Mortgage: Extra payments can reduce the loan amount and minimise the impact of negative equity. Check your mortgage agreement for overpayment limits to avoid penalties.
Improving Your Property: Renovating your home can add value, helping to counteract market fluctuations.
Monitoring Property Prices: Staying informed about local property values can help you make better financial decisions.
Exploring Government Schemes: First-time buyers can check government-backed options, such as the First Homes scheme, which offers discounted homes to eligible buyers.
Alternative Options for First-Time Buyers
If a low deposit mortgage seems too risky, consider other routes:
Shared Ownership: You buy a share of a property and pay rent on the remainder.
Help from Family: Some lenders offer family-assisted mortgages, where a relative provides security or a cash contribution.
Saving for a Larger Deposit: Waiting longer to save more could secure you a better mortgage deal with lower interest rates.
Key takeaway
A low deposit mortgage is a practical solution for many buyers, especially first-time homeowners. However, understanding both the benefits and risks is crucial. Higher interest rates and negative equity are potential challenges, but careful planning can help reduce their impact.
If you are considering a low deposit mortgage, speaking with a mortgage advisor may be helpful. Check out our previous guide on buy-to-let.