There is a growing trend for bonus income to be written into employment contracts which is often paid on a regular basis. This ensures employees are motivated and, especially in highly skilled sectors, helps with staff retention which has been a historic problem. As a consequence, demand for mortgages which take account of bonus income is certainly increasing and this trend is likely to continue. Due to the often risk averse business model of traditional high street banks in the UK we find often that the best deals for HNW individuals can often be negotiated directly with private banks, challenger banks and other non-traditional mortgage finance providers. However, this is not always the case and high street banks are still competitive on headline interest charges when it comes to straight forward vanilla bonus income mortgage applications.
Using traditional mortgage lenders and traditional affordability ratios does not always give the best outcome for high net worth individuals who may receive significant bonus payments on an annual basis. We have experience in negotiating personalised bonus income mortgage arrangements which can significantly increase the amount of funds made available.
Different income structures
Over the years we have seen the emergence of different income structures which are broadly based around a regular salary with slight variations. Some of the more common income structures include:-
- Simple graded pay structure
- Inflation-adjusted salary increases each year
- On-call payments
- Additional payment for consultation services
- Shift allowances
- Additional payments for secondment work
- Retention payments
In reality certain employment roles are suited to different income structures which are used to reward employees while also encouraging ever improving productivity numbers. It is extremely important that the various income structures listed above are viable on a long-term basis. If an employee was to obtain a mortgage on a particular pay structure and this changed, there may be additional pressure to keep up with payments. As a consequence, many companies now look towards different types of bonus payments as a means of rewarding employees and also encouraging them to improve sales, efficiencies and take a greater interest in the success of the company.
What are the different types of bonus?
Historically, bonus payments tended to be awarded intermittently with no regular structure although the situation has changed in recent times. We now see many employment contracts with bonus payments and sales targets written in. They can be exceptionally useful in motivating staff and the cumulative impact of a highly motivated workforce can be significant for many businesses. We will now take a look at the specific types of bonuses often made available:-
Many larger companies use profit-sharing schemes to incentivise employees and ensure that they share in the good times. Obviously, a profit-sharing scheme will depend on the company actually making a profit therefore it is not as solid a stream of income as you would hope. However, profit sharing as a percentage of your salary can have a significant impact on your income and allow you to pay down your mortgage much quicker.
There is growing competition in many areas of skilled labour and as a consequence companies are often battling to attract (and retain) the best employees. This has led to a bonus type structure which is perhaps traditionally associated with star athletes and sports people. The idea of a sign-on bonus/retention bonus makes perfect sense with regards to consistency and retaining the more skilful members of staff. This type of bonus arrangement would probably involve staggered payments over a period of months/years.
Companies listed on stock markets around the world have the additional option of using their stock as a means of rewarding staff. This may involve the transfer of free shares to employees and/or the option to acquire additional stock at a discounted price. Sometimes the stock awards can be restricted which often means they cannot be sold for a period of years. The sale of stock further down the line can generate significant one-off income payments which can be used to pay down your mortgage.
Foreign currency bonuses
The subject of foreign currency bonuses is an interesting one because in general high street banks are not overly keen to include these in their affordability calculations. However, the likes of Santander and NatWest will at least discuss the possibility if foreign currency bonuses are paid in a mainstream currency such as Swiss francs, euros, dollars, dirhams, etc. Private banks and niche lenders are more appreciative of foreign currency bonuses and this is where we stand a much better chance of negotiating a deal including foreign currency bonuses.
The structure of bonus payments will vary widely with some paid monthly, quarterly, annually while others may be time restricted and some are based around stock options which can be called in the future. The greater the regularity of bonus payments the more chance they will be taken into account when calculating affordability. However, even where the timing of bonus payments can be unpredictable we may still be able to use this income when negotiating the best mortgage for your situation. In simple terms, the more predictable the additional income streams the more likely private banks and niche mortgage lenders will include these in their calculations.
It is worth noting that deferred bonuses, which may not be available until many years down the line, are unlikely to be considered when discussing bonus income mortgages. There needs to be a degree of certainty and a history of receiving bonuses before a mortgage lender will even consider taking them into consideration.
How do lenders assess affordability?
There are many different factors for mortgage lenders to consider where additional bonus income significantly increases an individuals overall income. The balance between risk/reward can often be difficult to manage for traditional high street banks which have a strict criteria and a fairly rigid finance model. However, the situation is a little different when it comes to private banks and niche lenders who tend to be more nimble on their feet, able to react to trends and take a broader view of overall income, assets and potential for the future.
High street banks
It is fair to say that the worldwide financial sector is still recovering from the 2008 crisis brought about by the US sub-prime mortgage sector collapse. Balance sheets were annihilated, central bank funding was required and both banks/regulators are keen to maintain significant headroom between liabilities and collateral. While high street banks are still active within the bonus income mortgage market they have stricter criteria when it comes to affordability calculations. The absolute maximum bonus payment consideration will be around 60% and some banks may request evidence showing receipt of bonuses for at least two years. While the likes of NatWest and Santander will at least discuss the issue of foreign currency bonuses, they would need to be in a mainstream currency such as Swiss francs, euros, dollars, dirhams.
One of the major issues to be aware of is the capping of bonus payment considerations at basic salary level by many traditional lenders. If for example an individual had a basic salary of £50,000 but a bonus figure of £150,000 per annum, the maximum bonus payment which could be taken into consideration would be capped at £50,000. This is one of the major differences between the high street banks and the private banks/niche lenders as they tend to be more flexible often taking into consideration 100% of bonus payment without any cap. So, even though the high street is still fairly competitive when it comes to basic bonus income mortgages this may not be the place for those with low basic salaries and large bonus payments.
Private banks/niche mortgage providers
Over the years we have negotiated an array of bonus income mortgages on significantly better terms than traditional high street banks. We have a strong relationship with private banks and niche mortgage providers which we utilise on a regular basis to enhance lending for customers. In many ways it is the ability to negotiate personalised mortgage finance as opposed to off-the-shelf arrangements which attracts new customers. We know who to talk to, the information they require and the best way to present this. While focusing on bonus income we have managed to negotiate deals which:
- Recognise 100% of cash bonus payments
- Incorporate vested/deferred bonuses
- Manage to utilise bonus payments with a relatively short track record
- Utilise “bullet repayments” which can lead to reduced headline interest rates and an increase in the loan to value ratio
We regularly come across situations where lenders will cap the bonus figure for calculation purposes at the same level as a basic salary. As a consequence, this is not ideal for those on relatively low basic salaries which are enhanced by relatively large bonus payments. However, this is not the case across the whole lending market and our independent status means we have a wider reach of lenders than most traditional mortgage brokers. Presenting individual applications in the best light, taking into account traditional and non-traditional income, and highlighting long-term income streams is what allows us to create personalised deal structures.
It is fair to suggest that while both high street banks and private banks/niche lenders obviously need to take into account a customer’s financial situation at the time, private banks/niche lenders tend to buy into the potential of the person as much as their current financial firepower. At the end of the day, a high net worth individual headhunted for a new position is unlikely to forego the opportunity for potentially large bonus awards in the future. So, even though their bonus history may relate to previous employment it makes sense to factor in the potential for this to continue going forward. Personal banking on the high street tends to be less personal and more based around calculations, algorithms and ratios.
What is the best mortgage if you receive bonus income?
When looking at mortgages there are two basic types, repayment mortgages and interest only mortgages. The repayment mortgage spreads the capital and interest repayments evenly over a period of time at the end of which the property is paid off. Interest only mortgages only require the interest on the initial capital to be repaid month by month with the principal capital repaid at the end of the mortgage arrangement. This principal capital repayment could be the result of savings over the years, inheritance or in a worst-case scenario the sale of the property in question. For the duration of any mortgage arrangement the lender will hold a charge on the property to cover their exposure. There are some hybrids options which take in various characteristics of repayment/interest only mortgages but these are the base options.
In theory, if an individual receives significant bonus payments on a regular basis then they may be on a limited basic salary and therefore experience restricted short term cash flow. As a consequence, this would be different for all clients, for many the best option might be to take out an interest only mortgage which limits cash flow to interest payments across the duration of the mortgage arrangement. However, incorporated into this agreement should be the ability to make lump-sum payments (from bonus payments) which would reduce the principal capital and ongoing interest charges. Those who are buying a property to use as their primary residence, or perhaps a second home, may be attracted to this type of arrangement which allows them to utilise surplus cash flow to reduce their financial liabilities.
The reality is that no two situations are ever the same and dealing with traditional high street banks may limit the options available. Private banks and other niche lenders are more amenable when it comes to considering bonus payments in full – as well as stock options and profit sharing. However, when taking out any type of mortgage arrangement you also need to take into account the charges which can vary widely.
How do private banks/specialist banks differ to high street banks?
As we touched on above, the 2008 US sub-prime mortgage market crash had a significant impact on the worldwide economy and financial markets. The fact that worldwide interest rates are still towards the lower end of historic levels more than a decade later says everything. Traditional banks were bailed out by central banks to stop the financial markets collapsing. Indeed the UK government took effective control of Royal Bank of Scotland although there are plans to renationalise the company. The Financial Conduct Authority (FCA) now regulates the UK financial services industry having taken over from the Financial Services Authority (FSA) back in 2013. In light of the US sub-prime mortgage market crash the FCA introduced tighter regulations regarding mortgage applications and approvals. While there have been signs of renewed flexibility with regards to affordability calculations, these are nowhere near the level seen prior to the 2008 crash where the likes of Northern Rock were regularly approving mortgages of 120%.
It is very interesting to compare and contrast the likes of Northern Rock against private banks/specialist banks which are funded by a mixture of large corporations, investors and borrowing facilities. Compared to Northern Rock, which effectively ran its mortgage book against the margin on money markets, it is not difficult to see why private banks/specialist banks are more flexible when it comes to high net worth individuals and willing to consider their wider finances. Despite the fact that traditional high street banks are not only under pressure from the FCA but also investors and analysts are obsessed with key lending ratios, they are still relatively competitive within their rigid criteria. As a consequence, if you are looking for a straightforward bonus income mortgage there is every chance you may find a suitable deal on the high street. Where the situation becomes a little more complicated with large bonus payments, often in foreign currencies, there is certainly greater criteria flexibility from the private banks/niche lenders. We know from experience that private banks/niche lenders tend to be more receptive and appreciate:
- A larger portion of bonus payments, often up to 100%
- The use of worldwide assets as collateral
- High net worth individuals may have multiple currency income streams
This area of the market is particularly competitive with a growing number of high net worth individuals having bonus income and periodical payments written into their employment contracts. Whether promises of large bonuses to retain staff in the event of takeovers and mergers or more traditional profit-sharing for employees, the range of bonus structures available today is wide.
The growing trend in bonus payments across the UK employment sector
A report by the Office for National statistics cast a very interesting light on the UK employment market and in particular the use of bonus payments to supplement basic salaries. For example, in the financial year ended April 2017 the combined value of bonuses paid in the UK hit a record £46.4 billion which was a 6.5% increase from the previous financial year. It will come as no surprise to learn that the financial/insurance sector attracted the highest average bonus per employee at just under £15,000 which compares to zero bonus payments for those in the social work industry. In a sign of the times, since 2001 bonus payments have grown faster than regular pay and now make up a growing percentage of overall remuneration. In 2008, prior to the financial collapse, bonus payments made up on average of 7.1% of overall remuneration against 6.2% at the end of the 2017 tax year.
As you will see from the graph below, the financial services sector continues to dominate bonus payments in the UK economy. While this has long been a bone of contention amongst taxpayers, forced to fund bank bailouts, the need to attract and retain high quality skilled employees has long been an integral part of sector recruitment. It is therefore no surprise to learn that many people looking towards bonus income mortgages are employed within the financial services industry with the potential to earn significant bonuses.
The following chart perfectly illustrates the fact that the financial services industry is head and shoulders above the rest of the UK economy when it comes to bonuses as a percentage of total pay. Peaking at in excess of 30% back in 2008, prior to the US sub-prime mortgage crash, it is currently in the mid-20s. However, this still means that without personalised bonus income mortgage structures many high net worth individuals would have limited access to mortgage finance.
This is another interesting chart from the Office for National statistics which highlights the growing trend in bonus payments within the private sector as against the public sector. Public sector bonus payments as a percentage of total pay are but a fraction of those in the private sector.
The next chart perfectly illustrates the inconsistent nature of bonus payments which tend to be released towards the start of the year. This is a trend which has been in place for many years now and explains why people who take out bonus income mortgages require the option to make one-off payments.
It is common knowledge that the financial sector is head and shoulders above the rest of the UK economy when it comes to bonus payments. This chart for the financial year ending 2017 perfectly illustrates this with more than £1.25 billion paid out to the workforce, more than double the next sector in the list.
Since the 2008 economic crash it is safe to say that the financial and insurance services industry has experienced the greatest recovery in bonus payments per employee. As you will see from the chart below, there was an increase of £1600 per employee between the 2016 and 2017 financial years while other sectors have seen a reduction.
Last but not least, the following chart highlights the extent to which the financial services industry has benefited from bonus payments from the turn-of-the-century. While average payments are slightly down since the 2008 economic crisis this perfectly illustrates the long-term dependence on bonus payments for those working in the financial services industry.
It is fair to say that comparing bonus income mortgages from traditional banks and private/niche banks can be akin to comparing apples and pears. These two types of mortgage lenders are very different in their approach to bonus income, worldwide assets and additional currency income streams. Many high street banks are still competitive on headline rates when it comes to standard bonus income mortgages. However, where income may be skewed heavily towards bonus payments and incorporate foreign currencies, there may be better opportunities in the private banking/niche lending sector. The vast majority of bonus income mortgage applications which pass across the desks of Enness tend to relate to performance-related bonuses although we have negotiated deals involving retention/lock in bonuses.
When looking at the private banking/niche lender sector there is greater flexibility and an opportunity to structure a traditional or a hybrid mortgage arrangement around the specific needs of a client. This can help to reduce headline interest rates and overall costs going forward especially if the underlying client has enhanced earnings potential in the future. It is worth noting that high street banks tend to have a rigid approach based around algorithms and ratios while private banks/niche lenders tend to take a more personal approach. Often referred to as “old school banking” they are effectively buying into the person as well as their current financial situation.
Here at Enness we are able to maximise our independent status which ensures that we can talk to any lenders in the marketplace. This not only induces competition but allows us to create a structure which is perfect for your individual requirements. Why not give us a no obligation call today to discuss your situation in more detail and the options available.