100% mortgages versus 95% mortgages: which is better for first time buyers?

Young buyers face a tough challenge to get on the property ladder. Rents are at record highs and to save a 10% deposit for a first home, young buyers must save from the age of 21 for the next 13 years based on the average house price of £285,000, according to stockbroker Interactive Investor.

First-time buyers may be tempted to skip the wait or preserve the small savings they’ve managed to put away by choosing a 100% mortgage instead. 

But no-deposit rates are among the highest on the market and house prices are forecast to fall this year, increasing the risk of negative equity. Is a 95% mortgage a better idea instead?

We look at the benefits and drawbacks of both.

100% mortgages

A 100% mortgage means the buyer does not have to put down any deposit. Instead, they’re offered a mortgage equal to 100% of the purchase price.

Some of the UK’s best-known lenders offer 100% mortgage options.

• Barclays Family Springboard – family or friends must deposit 10% of your purchase price into a Barclays savings account for five years, after which the money is returned with interest if your mortgage is up to date.
• Lloyds Lend a Hand – helpers deposit funds for three years.
• Halifax Family Boost – similar to Lloyds
• Buckinghamshire Building Society Family Assist – parents or grandparents have a charge registered on their property (similar to a mortgage but they don’t make any payments). Their home can be repossessed if you don’t keep up with your repayments.
• Skipton Building Society Track Record Mortgage – no guarantor required, but applicants must be first-time buyers with a minimum track record of 12 months renting.

Pros

With a 100% mortgage, a buyer can purchase a home quicker than if they had to save for a deposit – escaping record high monthly rents. The average monthly rent for a newly-let property outside London is £1,190 a month, up 9.4% in a year, according to Rightmove. 

Richard Campo, founder of mortgage broker Rose Capital Partners, said: 'If you can put down a deposit you should do. But not everyone can. I am a huge fan of the current 100% deals as they are highly targeted and will get people out of the rent trap. As rents continue to rise, anything that can get you owning your own home faster can only be seen as a good thing.'

Cons of 100% mortgages

To qualify for all but the Skipton deal, borrowers wanting a 100% mortgage must have family or friends in a position to help. The terms and conditions are restrictive on all 100% mortgages, so not all borrowers will be eligible.

Rates are high too. 'Even the best-priced 100% mortgage offer with Skipton is priced at 5.89% and rates go up to 6.74% for Barclays’ Family Springboard,' explains Richard Campo. By comparison, Family Building Society’s 5.14% five-year fixed rate at 95% loan to value looks much cheaper and comes without any of the catches such as needing a family member to lock away savings. 'The bigger the deposit you put down, the less risk you are to the lender which means you’ll be offered a cheaper rate.'

Ending up in negative equity is a major risk of using a 100% mortgage. Negative equity means your home is worth less than the value of your mortgage debt. This can happen if house prices fall soon after you’ve bought the property before you’ve had time to pay off much of the debt. If you sell during this time, you would owe your mortgage lender money even after selling your property.

95% mortgages

A 95% mortgage means the borrower is contributing a 5% deposit and taking out a mortgage for the remaining 95% of the purchase price.  

Pros of a 95% mortgage

A lot more lenders offer 95% mortgages than 100% deals which means there’s a greater chance your circumstances will be agreeable to at least one lender. According to Moneyfacts, there were 24 95% deals on the market at the time of writing this article. The terms and conditions are also less restrictive, although you’ll still need to have high credit score to pass. 

Rates are also cheaper than 100% deals. The cheapest deal on the market for borrowers in England and Wales is 5.14%, fixed for five years. 

Nicholas Mendes, mortgage technical manager, added: 'If you’re able to, putting down a deposit will often be the most cost-effective solution as you would hold 5% equity in the property. This puts you one step closer to building up a larger amount of equity so when you’re at the end of your fixed rate period you may be able to remortgage to a lower rate at 90% LTV.'

Putting down a 5% deposit also alleviates some of the risk of negative equity if property prices dip as expected.

Cons of a 95% mortgage

If you choose to opt for a 95% mortgage as a first time buyer, you’ll have to wait longer to get on the housing ladder, and for some that means continuing to pay  high rent.

There’s still a high risk you could end up in negative equity if house prices fall this year. However, unless you’re planning to sell your home in the short term, this can be less of a concern. 

Rates are still high at 95% because mortgage lenders perceive 95% loans to be high risk, but are lower than 100% mortgages.

Which is better - a 100% or 95% mortgage?

Which type of mortgage is better for you will ultimately depend on your circumstances, but if you do have capacity to save up a 5% deposit, it's a good idea as you will likely benefit from a cheaper interest rate than if you went for a 100% mortgage. 

Either way, when borrowing large amounts from your lender, remember you will have to meet strict affordability criteria to ensure you can afford the repayments.