How mortgage lenders calculate net profit and how it affects borrowing

Understanding how lenders assess affordability of self-employed borrowers applying for a residential mortgage.

Did you know that most lenders will lend to the self-employed and base the borrower’s affordability to service the loan on their net profit before tax?

However, how each lender calculates a net profit figure for borrowing purposes varies. It also depends how the borrower operates his business – as a sole trader or through a limited company.

Sole traders

If your profits are on the up year-on-year, some lenders will take the average of the last two years’ profits but if your profits are down year-on-year, they will use only the latest year.

Other lenders will use just the latest year’s figure regardless of whether your profit is up or down.

Directors of limited companies (where the borrower owns 20% or more shares)

Most lenders will use the director’s salary plus dividends. Like sole-traders, some lenders will take an average of the last two years’ salary and dividends if the amount has increased year-on-year but only the last year’s salary and dividends if the amount has decreased. Other lenders will only use the latest year’s figures regardless.

However, some lenders recognise that a director may not need to withdraw all the profit as salary or dividend thus reducing their personal tax liability.

In these circumstances some lenders will lend on salary plus a share of the net profit for the director which sometimes allows the director to borrow more than on a salary plus dividend basis.

For example:

My clients, a married couple in their 60s approached me for help in refinancing to repay an expensive bridging loan secured on their home – a four-bed terraced house in London.

The husband owns 86% of a limited company which has been trading for five years. He draws a salary of £9,000 per year plus dividends of £37,000 giving him a total taxable income of £46,000.

The couple also own several buy to let properties but these did had not generated a profit due to the cost of recent improvement works carried out them.

Refinancing their home was a cheaper option that refinancing one of the buy to let properties.

The husband’s salary and dividends would support a loan in the region of £230,000.

However, last year, his limited company generated a profit in excess of £180,000, so I took the deal to a lender which would use this figure to calculate affordability and was able to get a loan offer of £570,000 for the clients. That’s an incredible 148% more! 

Here are the terms:

Property value: £950,000

Loan amount: £570,000

LTV: 60%

Rate: 1.49% 2 year tracker (reverting to lender’s SVR currently 4.79%)

Term: 12 years interest-only (based on the borrower being of high net worth)

Lender arrangement fee: £995

Mortgage payment: £708 pcm

Clearly knowing which lender to approach is the key element in this borrowing scenario so if you are self-employed and need some help maximising your borrowing potential, do get in touch.

Beckie Pepperrell has left Mortgages for Business for pastures new. For more information or for any questions relating to this blog, please contact the Residential Team on 0345 345 6788, where one of our consultant mortgage brokers will be happy to assist. 


You may be interested in the following:

FAQ- I am self-employed, but have no accounts available, can you help me? 

The homebuyer's guide to getting a mortgage


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