Payday loans are aptly named because they are designed to be repaid by borrowers at the end of the month, in-line with their payday. These loans are most commonly offered by online lenders, although doorstep lenders may also provide such services.
But do they affect getting a mortgage?
These loans can offer a helpful temporary financial boost, particularly when unexpected expenses arise and you require immediate cash. However, payday loans are not intended for managing long-term debts, and their high interest rates make them horribly expensive.
Payday loans are not favoured by mortgage lenders, which can present challenges when seeking approval for a mortgage.
In this guide, we will look deeper into the world of payday loans, exploring their impact on mortgage applications and providing tips on how to improve your chances.
What is a payday loan?
Payday loans are an expensive way to borrow money. Never take a payday loan unless you know you can repay it on time and in full. Otherwise, the costs and fees can soon spiral out of control.
When you take out a payday loan, the funds are deposited directly into your bank account, and you are required to repay the loan in full, along with interest and associated charges, by the end of the month.
However, it’s important to note that the borrowing options are expanding, allowing for longer repayment periods. While the typical duration is three months, there are also options for extended loan terms.
Regardless of the repayment period, all these loans share common characteristics: approved quickly, short-term, high-cost, and often involve relatively small loan amounts. The amount you can borrow is usually between £100-£1000.
Payday loans are treated no differently than any other loans by credit agencies. Consequently, they can remain on your credit file for up to six years.
Can you get a mortgage with a history of payday loans?
The good news is that getting approved for a mortgage is still possible, even if you’ve previously had a payday loan.
In fact, there are a few mortgage lenders who are willing to consider applications from individuals with active payday loans listed on their credit file.
It’s important to be aware that having a payday loan on your credit record will limit your options in terms of lenders and mortgage products. If the payday loan is still active or if you have a history of frequently using such loans, the lender may even impose a cap on the maximum loan-to-value (LTV) ratio.
Lenders will carefully scrutinise your payday loan usage, taking into account how frequently you have relied on them and the duration of your most recent payday loan.
While most high street banks follow a strict policy of not granting mortgages to individuals with a payday loan history, fortunately not all lenders adhere to this approach. There are specialist lenders in the market specifically designed to assist individuals whose situations deviate from the norm.
When considering your application, specialist lenders will likely enquire about the timing of the loan(s), the amount borrowed, the frequency of payday loans, and the promptness of repayment. Generally, the older the loan, the higher the likelihood of acceptance. Some payday loan mortgage lenders may also consider the purpose for which the money was borrowed, how it was repaid, and the efforts you have made to avoid relying on payday loans in the future. These lenders take a more holistic view of your financial situation.
Getting a mortgage while having any kind of loan will affect what you can borrow, unfortunately payday loans just make the situation worse.
Why don’t lenders like payday loans?
The primary reason why mortgage lenders have reservations about payday loans is that they indicate a potential inability to live within your means or effectively manage your finances.
However, it’s important to note that a single payday loan from the past, promptly repaid, can be acceptable to many lenders if you can provide a satisfactory explanation for its purpose.
For example, if you obtained the loan to cover unexpected car repairs and the rest of your credit history is in good standing, its impact on your mortgage application will likely be minimal. In fact, some lenders may still offer you the best rates.
On the other hand, regularly relying on payday loans, particularly in recent times, and continually rolling them over, suggests difficulties in managing your existing financial obligations.
This significantly limits the number of potential lenders and available mortgage deals. Moreover, a history of relying on payday loans may confine you to lower loan-to-value (LTV) products, or lead to the mortgage being declined.
Lenders strive to ensure that borrowers can meet their monthly mortgage repayments with certainty, and a track record of payday loans raises concerns about your financial stability, making you appear riskier in their eyes.
How do lenders find out?
When you apply for a mortgage, lenders conduct credit checks by reviewing your credit records.
Most lenders perform an initial credit check, known as an “agreement in principle“, and subsequently conduct a more thorough check before approving your actual mortgage application, particularly after you have found a property.
During these credit checks, lenders can identify the type of borrowing you have engaged in, such as loans, overdrafts, or credit cards.
While the checks do not specifically reveal the exact lender you borrowed from, they do indicate the nature of the borrowing, including short-term high-cost borrowing like payday loans.
All three major credit reference agencies in the UK – Experian, Equifax, and TransUnion – differentiate short-term high-cost borrowing, such as payday loans, from other types of loans on your credit report.
As a result, mortgage lenders can see whether you have used payday loans and when your most recent one was repaid.
This information assists lenders in assessing your financial history and evaluating the potential risk associated with your borrowing habits.
Payday loans can be identified on your credit report under categories such as “advance against income” or “revolving credit.”
How your mortgage chances are affected
When it comes to your mortgage application, the presence of a payday loan on your credit report can have varying effects depending on the lender’s criteria. Each lender has their own unique set of lending requirements, which can significantly influence the terms they offer or if they consider your application at all.
Overall, if your credit history reveals a pattern of relying on payday loans, lenders will perceive you as a higher-risk borrower. This means that you are unlikely to be offered the lender’s most competitive interest rates, and some lenders may be hesitant to even consider your application.
It is advisable to avoid applying for any type of credit, particularly high-interest options like payday loans, in the six months leading up to your mortgage application. Some would argue that a longer period of twelve months is preferable.
A lender will look at:
Credit Repayment History
Taking out a payday loan leaves a mark on your credit file, and lenders can see your previous payday loan activity.
If you have only taken out a single payday loan and made all repayments on time, you will face fewer obstacles compared to someone with multiple payday loans, missed payments, defaults, bankruptcy history, or involvement in a debt management plan.
To mitigate the potential impact of your payday loan history, it’s advisable to focus on maintaining a positive credit report overall. This increases the chances of lenders considering your application.
Timing and Usage of Payday Loans
Lenders have varying criteria regarding payday loans.
Some may decline your application if you have taken out any payday loans within the past 12 months. Others may consider your application even if you currently have an active payday loan.
In most cases, your chances of approval with high street lenders increase after a period of 2 years has passed since your payday loan was settled. However, it’s important to note that suitable mortgage deals can still be found with the guidance of your mortgage adviser.
Loan-to-Value (LTV)
Lenders also consider the loan-to-value ratio, which compares the size of the loan you wish to borrow, with the property value.
For example, if you have a 10% deposit, your required LTV would be 90%. This is typically easier to obtain with a good credit history.
However, if you have a history of multiple payday loans or an outstanding payday loan, lenders may limit the maximum LTV they offer you, requiring a larger deposit.
How long after a payday loan can I get a mortgage?
If your most recent payday loan occurred more than six years ago and you have no other credit issues, you will have a much wider range of mortgage options available compared to individuals with recent payday loans on their credit file.
Lenders have access to your credit history, which includes information about payday loans and other borrowings, for a period of six years.
A lot will depend on your overall financial situation.
If you have a strong track record of employment, very few loans/cards and a healthy deposit then you should have no problem getting a mortgage.
Ideally, your payday loan should have been fully repaid at least six months ago.
It’s a good idea to get a copy of your credit report and see what entries are showing. Give a copy to your mortgage broker as well.
Taking the initiative to check your credit score and review your credit report is an excellent starting point.
You can obtain a complimentary copy of your credit file by taking advantage of a trial offer from checkmyfile (typically priced at £14.99 per month).
How can I improve my situation?
Provide a Larger Deposit
One effective way to mitigate the impact of your payday loan history is to offer a larger deposit when applying for a mortgage.
LARGER DEPOSIT = LOWER LTV
By doing so, you reduce the perceived risk for the lender and gain access to a wider range of products, potentially with more favourable interest rates.
Seek Advice from an Independent Mortgage Broker
Engaging the services of an independent specialist mortgage broker can significantly increase your chances of finding a suitable mortgage product despite your payday loan history.
Independent brokers have access to an extensive network of lenders and products, including those designed for borrowers with adverse credit. This enables them to find the most appropriate mortgage options for your specific circumstances and potentially secure more competitive rates.
Improve Your Credit Score
Payday loans can impact your credit score, particularly if there have been late or missed repayments.
Taking steps to improve your credit score will greatly enhance your mortgage application. This can include making timely payments on all your existing debts, ensuring that your credit utilisation remains low, and correcting any inaccuracies on your credit report.
Clear Outstanding Debts
Demonstrate your financial responsibility by paying off all outstanding debts in full (or as much as you can) and settling any defaults.
This showcases your ability to effectively manage your financial obligations and can significantly improve your creditworthiness in the eyes of lenders. It will also lower your debt-to-income ratio, which is another benchmark that lenders use.
Avoid Taking on Excessive Credit
Avoid applying for multiple lines of credit within a short period.
This practice can lead to multiple hard credit checks, which can negatively impact your credit score. Lenders may interpret this as an indication of financial struggles or an inability to live within your means.
Remove Associations
Your credit file will show links to people who you have a financial association with. This could be for a loan or bank account.
If they have credit issues or PayDay loans then this will affect your application. You should remove any financial associations that are no longer valid.
What about remortgages?
Lenders evaluate remortgage applications using a similar approach as they do with standard mortgages.
Your previous payday loan history will have a comparable effect, potentially limiting your borrowing options and leading to higher interest rates. In such cases, it is beneficial to consult a specialist mortgage broker. They can offer valuable guidance and recommend the most suitable remortgage lender based on your payday loan history.
Remortgages with bad credit are available, but you may require the expertise of an adverse credit lender who assesses applications on an individual basis. These lenders are often accessible through intermediaries, ensuring you have access to a wide range of options tailored to your specific circumstances.
Why is it important to check my credit report?
If you have previously taken out one or more payday loans, it is crucial to review your credit report before applying for a mortgage.
Understanding your financial history and how potential lenders perceive you can save you valuable time. Applying to a lender who does not meet your criteria for a mortgage is futile and can result in rejection, wasted application fees, and potentially harm your credit report.
How do I remove a Payday loan?
Payday loans remain on your credit report for a duration of six years. It is not possible to speed this up.
However, paying off the loan as early as possible can help mitigate the long-term negative impact on your credit score.
A payday loan settled five years ago will have a lesser impact on your application compared to one settled more recently, such as within the past year.
My application has been declined due to a payday loan
Facing a mortgage rejection due to payday loans can be disheartening and leave you uncertain about your next steps. It’s tempting to apply to another lender right away, but multiple unsuccessful applications can have a detrimental impact on your credit report, which is something you want to avoid.
High street banks often decline mortgage applications from individuals with a history of payday loans. Their processes are primarily designed to handle straightforward applications, making it challenging for them to accommodate more complex cases.
If your mortgage application has been declined, don’t rush into submitting another application with a different lender. Instead, seek guidance from a mortgage broker who specialises in payday loan mortgages.
They will have extensive knowledge of mortgage lenders’ criteria and can identify lenders who are more likely to accept applicants with a payday loan history.
Other options to consider include waiting for some time before reapplying for a mortgage, allowing the payday loan to become less recent on your credit history. Additionally, actively working on improving your credit score can open up more opportunities for you in the future.
Can you get a mortgage with bad credit?
It’s important to acknowledge that securing a competitive mortgage becomes more challenging as your financial circumstances become more complex.
The combination of payday loans with adverse credit history poses significant risk factors for lenders.
However, if you have a history of payday loans but have consistently made timely repayments and demonstrated responsible financial management since then, there are mortgage lenders who will consider your application.
If your credit report reveals one or more payday loans along with any bad credit such as; CCJ, defaults, bankruptcy, repossession, you may require the services of an adverse credit broker.
How a broker can help
While payday loans can affect the lenders and mortgage deals available to you, they do not necessarily prevent you from obtaining a mortgage altogether.
To maximise your chances of securing a competitive mortgage deal, it is advisable to work with an independent mortgage broker.
With access to the whole mortgage market, they specialise in matching individuals with the most suitable lenders based on their unique circumstances.
Increasing the likelihood of finding the right mortgage option for you.
Ready to explore your options?
If you’re just about to start your mortgage journey and could use the guiding hand of a professional, don’t hesitate to reach out to a reputable mortgage broker.
An independent mortgage broker can access over 100 lenders on your behalf. They will make the process smoother and more profitable than going it alone.
Keep reading, keep asking questions. The more you know, the better decisions you can make.
