Continuing our series on how to invest for specific goals, we take a look at what to think about if you need a deposit to get a foot on the property ladder.
Getting on to the property ladder can seem a pretty daunting task, especially given the recent buoyancy of the housing market across the UK. The average cost of a first home stood at £200,000 in January 2021, according to Rightmove - but that ranged geographically from the North East at £144,000 to Greater London, where first time buyers (FTBs) pay an average £500,000.
Nationwide’s latest housing affordability report highlights the fact that high house prices relative to average earnings continue to present real challenges for FTBs trying to scrape together a deposit. The lender finds that a 20% deposit would amount to 110% of average income - a record high in terms of lack of affordability.
And, of course, London FTBs, with the highest average prices to meet, have to find the largest deposits. Statista reports that the average FTB deposit in Greater London stands at more than £130,000, against a UK average of £57,000. Northern Ireland is cheapest, averaging £30,000.
It’s a harsh reality, and for many FTBs one solution may be to move to a relatively affordable part of the country. But there are other steps you can take to build a deposit, especially if you’re planning well ahead.
Start saving early
The longer you have to build up a deposit fund, the more feasible it is. If you can give yourself 10 years, you can afford to take a longer-term approach to investing, although you might choose to switch into lower-risk, more diversified funds nearer the time you’ll need the money.
A longer-term approach means looking for more equity-focused funds, and even considering those with exposure to sectors that are likely to be a bit more up and down in the shorter term, but which have the potential to outperform over longer time frames, such as smaller companies or emerging markets.
We make some fund suggestions for different timescales below.
- Low-cost investments to help get you started – all chosen by our experts
- Want to learn more about the world of investing? Visit our Knowledge Centre
Start saving regularly
Many people have little in the way of lump sum savings to put towards a deposit, so that means relying on money saved from their earnings.
By far the easiest and most disciplined approach is to set up a monthly savings or investment scheme, so that the cash automatically leaves your current account by direct debit as soon as you’re paid. That way, you don’t have to make any choices or decisions, or take any action.
Of course, if you come into the money - with a work bonus, for example – you can stick that in as well. And if you get a pay rise, why not boost your monthly payments?
interactive investor offers free regular investing for monthly contributions of as little as £25.
Cash won’t cut the mustard
Regular payments into a savings account mount up over time, but they’re unlikely to keep pace with inflation, let alone with house price growth. Data from Statista shows average house prices in the UK have doubled in real terms over the past 20 years, although of course that’s no guide to what they will do in the future.
In contrast, regular or lump sum investments into the stock market can grow more significantly and stand a better chance of keeping up with house price growth.
To put that differential into perspective: over 10 years, £50 a month into a savings account paying 2% a year will provide you with a nest egg of around £6,690. If you invest it into a fund producing an average return of 5%, it will be worth almost £7,800 by the end of the period. If you’re prepared to take more risk and put your money into a fund returning 8% a year, your nest egg will have grown to £9,200.
However, if you’re investing for your own home, you probably hope to muster enough for a deposit within a few years, so it’s important to choose an investment that’s suitable for a medium-term timescale. See below for some ideas.
- Top 10 things you need to know about holding cash versus investing
- Find out your financial personality type
The obvious choice for any flexible medium-term savings goal is an ISA, in which your investment can grow free of tax. You won’t pay any tax when you cash in the holding either. You can invest up to £20,000 a year in an ordinary ISA.
Alternatively, it may be that your parents and other family members have built up a lump sum in a Junior ISA in your name during your childhood, which automatically rolls over into a normal ISA when you reach 18.
Junior ISAs have just had their 10th birthday, and interactive investor’s own data shows that the canny parents who invested in the markets rather than using a cash account have built really substantial funds for their children.
The average pot was a useful £13,000, but more than 1,000 ii clients had built funds worth between £50,000 and £100,000, and 110 accounts were worth more than £100,000 (although these may have been held as child trust funds or other accounts before Junior ISAs were launched).
Either way, if you are lucky enough to have a former Junior ISA, it could be an obvious starting point for a deposit - particularly if it has been invested in stocks and shares.
The government stepped in to try and make things easier for first-time buyers in 2017, with the introduction of Lifetime ISAs. These can be opened by anyone between the age of 18 and 39, and can be used either towards a first home or for retirement once you turn 60.
In a nutshell, you can save or invest up to £4,000 a year and the government will add a 25% cash bonus to your contributions. But be warned that if you try to use the money for anything other than a first property before you’re 60, you’ll face a 25% penalty charge.
- What is a Stocks & Shares ISA?
- Watch our interviews with star fund managers. Subscribe to our YouTube channel here.
Input from older generations
We hear a lot these days about the Bank of Mum and Dad, and recent research from property consultancy Savills found that parental input will support almost half of all FTB transactions in 2021, contributing an average £58,000 to those purchases.
Many parents and grandparents don’t have anything like that kind of money sloshing around as a lump sum, but over a number of years they may be able and willing to contribute smaller sums to a deposit fund.
They may feel they would rather pass on money they can spare as a lifetime gift when their children need it most, rather than leaving it to them as an inheritance, possibly decades down the line.
But it can be a big ask, especially for parents of larger families who want to be even-handed but are worried they won’t be able to afford to make the same provision for each of their children.
Parental and grandparental help these days may be needed simply to achieve the minimum 5% deposit needed for a first-time buyer mortgage. Historically, though, parents have made financial contributions to try and help their children get a more affordable mortgage deal that will cost them less each month.
Mark Harris, chief executive of mortgage broker SPF Private Clients, explains: “A traditional route is for parents to gift money to the child to assist in the purchase. With this being used for the deposit, the borrower can hopefully drive down the loan to value (LTV) and that way access a more competitive mortgage rate.”
However, he warns: “Lenders may look to confirm that the parents do not regard this money as a loan, or else it could be included as a financial commitment when they are assessing affordability.”
Creative mortgage alternatives
Looking beyond deposit-building, the mortgage industry has been creative in enabling parents to back their children’s purchases in other ways.
Harris points, for example, to recent growth area in savings-backed schemes such as the Barclays Family Springboard or the Lloyds Lend a Hand scheme.
“The parents deposit a sum into a savings account with a lender who takes a charge over it. These savings, typically between 5% and 25% of the property price, are held as security should the borrower not make the payments. The parents get their money back after a few years.”
Equity-backed schemes are another option. For example, the Family Deposit Scheme from Loughborough BS offers up to 100% of the value of the property (up to £300,000) if a family member guarantees the deposit of up to 20% of the purchase price. They can do this by way of cash or a collateral charge against their property, or a combination of the two.
- Video: Peter Schmeichel - The ii Family Money Show
- Friends & Family: ii customers can give up to 5 people a free subscription to ii, for just £5 a month extra. Learn more
If you have a 10-year perspective, one of the big global generalist investment trusts such as Witan (LSE:WTAN), F&C (LSE:FCIT) and Alliance Trust (LSE:ATST) could work well. They provide great stock market diversification and access to a wide range of global equities, in some cases (Witan and Alliance Trust, for example) with specialist stock pickers used for different parts of the portfolio.
Alternatively, you could consider one of interactive investor’s low-cost Quick Start funds.
For a time frame of perhaps five years, it is sensible to stick to a good mix of assets, which will reduce the likelihood of painful losses if markets take a tumble.
“While there are few genuinely low-risk investments out there which will deliver positive real returns, there are a few funds run by long-term investors who take a multi-asset approach to reduce the stock market risk in portfolios,” says Ed Allen, investment director at Tyndall Investment Management.
- Golden rules for ISA investors: before you invest, pass these tests
- ii Super 60 investments: quality options for your portfolio, rigorously selected by our impartial experts
Allen picks out Sebastian Lyon’s Troy Trojan fund, Freddie Lait’s Latitude Horizon fund, and Peter Spiller’s Capital Gearing (LSE:CGT) investment trust as good examples. “All have 50% or less in equities in their portfolios, although this does move over time, plus diversifying assets such as inflation-linked bonds and gold,” he adds.
Dzmitry Lipski, interactive investor’s head of funds research, agrees. “Capital Gearing has two objectives: to preserve capital over any 12-month period and deliver returns well in excess of inflation over the longer term.
“The trust has been managed by highly regarded investor Peter Spiller since 1982 and has delivered positive total returns in 37 out of 38 years. During his tenure, the trust has been a great preserver of wealth in bear markets, including the dot-com crash and the Global Financial Crisis and most recently during the market sell-off in 2018 and 2020. We view this trust as a good fit as a core holding due to its defensive stance and high levels of diversification.”
These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided by third parties. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.
Full performance can be found on the company or index summary page on the interactive investor website. Simply click on the company's or index name highlighted in the article.
Please remember, investment value can go up or down and you could get back less than you invest. If you’re in any doubt about the suitability of a stocks & shares ISA, you should seek independent financial advice. The tax treatment of this product depends on your individual circumstances and may change in future. If you are uncertain about the tax treatment of the product you should contact HMRC or seek independent tax advice.