Higher Living Costs and Mortgage Affordability: During late 2022 and early 2023, mortgage affordability weakened due to two interrelated pressures.

Mortgage rates increased, making new borrowing more expensive. At the same time, energy, food and household costs reduced disposable income.

Lenders therefore had to consider both the proposed mortgage payment and the applicant’s remaining monthly budget.

A household could earn the same income yet qualify for a smaller mortgage. Higher essential spending could leave less money available for repayments.

Applicants could prepare by reviewing expenditure, reducing avoidable commitments and checking their credit records before applying.

A study of mortgage affordability during rising household costs

Mortgage affordability is not determined by income alone.

It depends on the relationship between earnings, committed spending and the proposed mortgage payment. During early 2023, each part of that calculation was under pressure.

The Bank of England increased Bank Rate to 3.5% in December 2022. This followed several increases from the historic low of 0.1%.

Meanwhile, the Office for National Statistics recorded CPI inflation of 10.5% during the year to December 2022. CPIH inflation stood at 9.2%.

Housing costs, household energy and food remained major contributors.

These conditions created an unusual affordability problem. Borrowing costs were rising while the money available for repayments was falling.

The central lesson was simple. A household’s income could remain unchanged while its mortgage capacity declined.

How mortgage lenders assessed affordability

Mortgage lenders did not assess applicants using a single income multiple.

Income multiples could provide an initial guide. However, lenders also examined whether the proposed payments appeared sustainable.

The assessment could include:

• basic salary and regular income;
• overtime, commission or bonuses;
• loans and credit card commitments;
• childcare and maintenance payments;
• council tax and household bills;
• transport and travel costs;
• dependants and household size;
• mortgage term and repayment method;
• the proposed product rate;
• expected payments after an initial deal ended.

Each lender used its own affordability model. Therefore, two lenders could reach different borrowing figures using the same household information.

Applicants could obtain an initial estimate through the residential mortgage affordability calculator. A calculator does not provide a lending decision.

Why living costs affected mortgage borrowing

A lender needed to understand how much income remained after regular spending.

Suppose a household received £4,000 each month after tax. Essential and committed spending previously totalled £2,100.

That left £1,900 before the proposed mortgage payment and other flexible spending.

If essential costs increased to £2,450, the remaining amount fell to £1,550. Income had not changed, but available monthly capacity had reduced by £350.

That reduction could affect:

• the maximum mortgage available;
• the term needed to support the loan;
• the lender willing to consider the case;
• the applicant’s choice of property;
• the deposit required;
• the affordability of future rate changes.

This was why reducing discretionary spending shortly before an application did not always solve the problem.

Many lender models included standard household expenditure assumptions. These assumptions could arise when national living costs increase.

The combined effect of rates and expenditure

Higher living costs affected the money available for mortgage payments.

Higher mortgage rates affected the size of those payments.

Together, these changes could produce a greater effect than either pressure alone.

For illustration, a £200,000 repayment mortgage over 25 years would cost approximately:

These figures are illustrations and exclude fees. Actual costs depend on the mortgage, lender and calculation date.

A move from 2% to 5% could add about £321 to the monthly payment. A household could also be paying more for food, heating and travel.

Therefore, an affordability review needed to consider the complete household budget.

Why salary increases did not always restore capacity

Some borrowers received pay increases during this period. However, higher gross income did not always produce greater mortgage affordability.

Several factors mattered.

First, the increase after tax could be smaller than the headline salary change.

Second, essential spending may have risen by a similar amount.

Third, existing credit commitments could continue reducing available income.

Fourth, lenders might not accept every form of additional earnings.

Overtime, bonuses and commission could require evidence showing that the income was regular and sustainable.

Self-employed applicants could also face different evidence requirements. Our guide to self-employed mortgages explains how lenders may assess trading income.

How affordability affected different borrowers

First-time buyers

First-time buyers often had to balance deposit savings with rent and increasing household bills.

A larger deposit could reduce the required loan. However, using every available saving could leave no financial reserve after completion.

Buyers also needed to consider solicitor costs, surveys, removals, insurance and initial property repairs.

The first-time buyer mortgage guide explains the wider preparation process.

Home movers

Home movers could have equity available from their existing property. However, equity did not replace the affordability assessment.

The new loan still had to appear sustainable against income and expenditure.

Higher purchase prices could also bring larger council tax, energy, maintenance and insurance costs.

Existing fixed-rate borrowers

Borrowers on fixed rates were protected from immediate payment changes until their deal ended.

However, a future product could carry a higher rate. Reviewing options early gave the household more time to compare expected payments and fees.

Those approaching the end of a deal could review the practical stages of remortgaging.

Variable and tracker-rate borrowers

Tracker mortgages usually moved in response to Bank Rate.

Standard variable rates were set by individual lenders and could also change.

These borrowers could experience payment increases before fixed-rate customers reached their deal expiry dates.

However, switching was not automatically suitable. Early repayment charges, product fees and future plans still required consideration.

Why the lowest rate was not always the lowest cost

A mortgage rate is important, but it is only one part of the cost.

Applicants also needed to consider:

• arrangement fees;
• valuation fees;
• legal costs;
• cashback;
• free valuation or legal offers;
• early repayment charges;
• the initial deal period;
• the follow-on rate;
• the mortgage term;
• the total amount repayable.

A lower-rate product with a large fee could cost more during a short deal period.

The comparison needed to reflect the expected mortgage balance and intended ownership period.

This principle became more important when household budgets were already under pressure.

Practical steps before making an application

Applicants could not control national interest rates or inflation. However, they could improve the quality of their application.

Review three months of spending

Bank statements could reveal subscriptions, recurring payments and unplanned spending.

The purpose was not to create an artificial budget. It was to understand the household’s genuine financial position.

Avoid unnecessary new credit

New borrowing could increase monthly commitments. Credit applications could also appear on the applicant’s credit record.

Applicants should not cancel essential agreements without understanding the consequences.

Check credit information

Errors or unknown accounts could delay an application.

Connect Mortgages provides access to a credit file service for applicants who want to review their records.

Prepare income evidence

Employed applicants might need payslips, bank statements and evidence of regular additional income.

Self-employed applicants could need accounts, tax documents and business bank statements.

Keep a financial reserve

A mortgage budget should not assume every available pound will be used each month.

Homes require maintenance. Bills can change. Income can also fluctuate.

A reserve can reduce the financial effect of unexpected costs.

Compare realistic monthly payments

Applicants should examine likely payments at different rates.

They should also consider whether those payments remain manageable alongside their household responsibilities.

When later-life affordability requires a different approach

Older borrowers may have pension income, employment income, investments or property wealth.

Traditional repayment mortgages are not the only possible route. However, each later-life option has different affordability, interest and inheritance effects.

Connect Lifetime Mortgages explains how mortgage affordability can be considered within a wider later-life review.

Releasing property wealth can reduce the value of an estate. It may also affect entitlement to means-tested benefits.

What the 2023 affordability period taught borrowers

The period showed that affordability is a relationship rather than a fixed number.

Income matters. Yet the timing, reliability and source of that income also matter.

Spending matters. Yet lenders may assess spending differently from the applicant’s personal budget.

Interest rates matter. Yet fees, terms and future payments affect the wider cost.

A mortgage is not affordable simply because the first payment can be made. It must remain manageable when ordinary life continues around it.

That includes heating the home, travelling to work, supporting dependants and meeting unexpected costs.

Speaking with a mortgage adviser

Mortgage criteria vary between lenders.

An applicant declined by one lender may not automatically be unsuitable elsewhere. However, repeated applications can create unnecessary credit searches.

A mortgage adviser can review income, expenditure, deposit, credit history and property details before recommending a route.

Connect Mortgages can assess residential cases across a broad range of lender criteria.

Contact a mortgage adviser to discuss your circumstances before submitting an application.

Frequently asked questions

Do higher living costs reduce mortgage affordability?

They can. Higher essential spending leaves less disposable income available for mortgage repayments and other commitments.

Can I borrow less even when my salary has not changed?

Yes. Borrowing capacity can fall when household costs, credit commitments or mortgage rates increase.

Do all lenders calculate affordability in the same way?

No. Lenders use different models, income rules and expenditure assumptions.

Does a mortgage calculator guarantee how much I can borrow?

No. A calculator provides an estimate. The lender’s complete assessment determines the available loan.

Should I reduce spending before applying?

Reviewing avoidable spending can help. However, lenders also consider continuing commitments and standard household costs.

Is the mortgage with the lowest rate always cheapest?

No. Fees, incentives, early repayment charges and the deal period can change the total cost.

Can a longer mortgage term improve affordability?

A longer term can reduce monthly payments. However, it can increase the total interest paid over the mortgage term.

When should I review a fixed-rate mortgage?

Many borrowers begin reviewing their options several months before the fixed period ends. Product availability and offer periods vary.

Your home may be repossessed if you do not keep up repayments on your mortgage or other loans secured against it.