Property is cash-intensive. Those wanting to buy land, houses or commercial buildings may need additional financing before they buy – either because they don’t have the funds available, or they would rather those funds remained in an investment portfolio or existing property. What are their options?
For many property purchases, a commercial bank will be the first port of call. Rates are competitive, reflecting the historically low interest rate environment throughout Europe. According to the Luxembourg Central Bank, the average variable interest rate on a residential property mortgage loan in 2019 was 1.51%, down 0.1% from the previous year.
Interest rates look unlikely to shift significantly in the short term. Under the guidance of new president Christine Lagarde, the European Central Bank has launched a review of interest rate policy in the Eurozone and its effectiveness. However, few economists expect any rise in rates in the near term, especially in the context of the slow exit from an unprecedented global pandemic.
For a conventional mortgage, calculations are based on the borrower’s salary or income and outgoings, and the amount they want to borrow relative to the value of the property. For those with a conventional background – salaried employment, a reasonably large deposit, a clean credit record – this route is not likely to present major problems.
Conventional mortgages become more difficult to secure when there are oddities in your financial arrangements. In many cases, these may not seem very odd at all: perhaps you are self-employed, or run a business, or rely on variable bonuses for a substantial proportion of your income. However, it can make lenders wary. This doesn’t usually cut off mortgage financing completely, but it may mean a smaller choice of lenders and potentially higher interest rates to borrow at.
As a rule, banks have different criteria for buy-to-let properties. In this case, borrowing limits will be based on a multiple of rental income, and investors often need a larger deposit – usually 30% of the value of the property. In many cases, institutions will not take rental income on its own as a guarantee – buyers may need to provide evidence of sufficient additional revenues in the event that the property spends some time empty and not generating income.
Private banks recognise that wealthy individuals often don’t want to liquidate a well-constructed investment portfolio to make property purchases.
In most mortgages, a bank’s main collateral is the property itself. However, some private banks are willing to lend against an investment portfolio. This is another form of ‘secured lending’, so rates are generally lower than they would be for unsecured lending. Equally, private banks recognise that wealthy individuals often don’t want to liquidate a well-constructed investment portfolio to make property purchases in case it compromises their long-term goals.
This type of borrowing can be secured against a variety of assets. There are no hard and fast rules – the amount you can borrow will be decided in negotiation with your bank – but usually you can borrow up to a certain percentage of the market value of the assets. The amount will depend on factors such as the quality, volatility and liquidity of the assets in question.
There may be specialist lenders for certain types of property purchase, for example agricultural, retail or commercial. These lenders will tend to understand specific business needs with greater nuance than a typical bank, and may have different underwriting standards.
Auction finance is a well-recognised area of short-term lending. When property is bought at auction, the purchase usually needs to be completed within 28 days, but conventional lenders usually can’t do the requisite searches and surveys in the time available. Auction finance is usually limited in time to six or 12 months, by which time the buyer can secure borrowing from a conventional lender. Rates will be higher than for normal financing.
Self-build finance can help those who want to build their home from scratch. This type of mortgage loan will often be drawn down by the borrower over time, usually when specific targets are reached – the foundations are laid, or the roof is in place. The homeowner may need to use accredited builders and submit the construction process to ongoing scrutiny.
Lower interest rates have made previously expensive forms of borrowing more attractive – for example bridging finance, which used to be a costly option, with high interest rates and fees
Lower interest rates have made previously expensive forms of borrowing more attractive – for example bridging finance, which used to be a costly option, with high interest rates and fees. As a result, it was usually only used as a last resort to bridge the gap between the purchase of one property and the sale of another. It is still expensive relative to other forms of borrowing, but with costs having fallen, it can be a useful tool if a sale is taking a long time to complete.
Fixed or floating rate?
Floating rate mortgages have been a great option for borrowers in recent years, as interest rates have dropped lower and lower. Typically, the interest rate will be set at between 0.5% and 1% over the European Central Bank base rate, and some borrowers have seen their mortgage rates drop to less than 1%. Fixed rates aren’t much higher ; 20-year mortgage loans can now cost less than 1% for top-tier borrowers with plenty of equity in their homes.
Those deciding on a fixed-rate loan will need to decide on the appropriate term. At the moment, rates are low, and it can be worth locking in a low rate for as long as possible. However, if you want to pay off the loan early, you will pay a fee (usually a proportion of the remaining amount), so lengthy terms won’t suit those who are keen to pay off their property debt quickly. It will also depend on the jurisdiction in which you are borrowing: 20- or 25-year terms are not unusual in France or Luxembourg, but most UK fixed-rate mortgage loans don’t go beyond five years.
There is almost always a way to secure financing for a property purchase. The question is more how much you are willing to pay, and how quickly you need the capital. It can be worth looking beyond conventional options to find the right financing solution. Ask your banker !