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Is the mortgage time-bomb still ticking?

Is the mortgage time-bomb still ticking?

by | Jun 12, 2020 | Equity News, Mortgage News

Back in 2013, the FCA identified three residential interest-only mortgage maturity peaks. The first peak was back in 2018 and there are two more predicted for 2027-2028 and 2032.  What’s more, interest-only mortgages are very much still available in the residential-mortgage market.  In fact, the number of residential interest-only mortgage products available almost doubled between 2013 and 2019.

This raises the question of whether or not the “mortgage timebomb” can be diffused over the next decade or so or if it could tick on for longer. Of course with recent events and the raised interest in this product, the question is now very important.

A brief explanation of interest-only mortgages

With an interest-only mortgage, the borrower makes interest repayments over the course of the term and then repays the capital at the end of the term.  On the one hand, this makes monthly repayments more affordable than they would be for a repayment mortgage for the same amount.  On the other hand, it means that interest is always charged on the amount originally borrowed, rather than over an amount which is continually decreasing.  It also means that the only equity borrowers build up in their home is via house-price inflation.

The challenge of paying back the principal

 

Mortgages, by definition, are secured loans.  Specifically, they are loans secured against your home, which means that your home is always at risk if you are unable to make repayments as you should.

With repayment mortgages, however, you are, again by definition, repaying some of the loan principal each month.  With interest-only mortgages, however, you have to find an alternative method of paying back the capital and the harsh reality is that even selling the property may not be enough to do so.

The issue of equity

As previously mentioned with an interest-only mortgage, the only equity you accumulated is through house-price inflation.  This means that you would only be able to repay the loan capital purely through the sale of your home if you achieved a net profit at least equal to the amount you originally borrowed.

While this is certainly not out of the question at all, it depends both on the state of the housing market at the time and on the tax regime in force.  For example, if the government does implement the suggestion of levying stamp duty on sellers rather than buyers, you would need to make enough profit to cover that.

Similar comments apply to using equity release.  Even though equity release products do not typically require the borrower to make any repayments during their lifetime (unless they move into permanent care), there is still an expectation that the loan will be repaid, with interest, after their death (or move into permanent care), hence the loan-to-value ratio has to make that feasible.

Alternative repayment vehicles

Of course, selling the property is not necessarily the only way to repay an interest-only mortgage.  You could use savings, investments or the proceeds from a pension pot, in fact, in theory you could use anything you wanted as long as it covered the cost.  The challenge is that in a low-interest-rate environment, returns on cash deposits are uninspiring.  It is, of course, possible for mortgage-holders to put their savings into higher-interest bonds, but the challenge would be to find bonds with high interest but low risks.

Similarly, investment returns are not guaranteed, which means that if the size of pension pot is dependent on investment returns, it is not guaranteed either.

The future of residential interest-only mortgages

In theory, the emphasis on affordability criteria, including having a realistic plan for paying back the loan principal, should protect both borrowers and lenders going forward.  In practice, only time will tell if this is the case or if interest-only mortgages really need to be relegated to financial history.

 

Your property may be repossessed if you do not keep up repayments on your mortgage.

Equity release refers to home reversion plans and lifetime mortgages. To understand the features and risks ask for a personalised illustration.

For equity release, savings, investment and pension products we act as introducer only

 

 

Understanding self-build mortgages

Understanding self-build mortgages

by | Jun 5, 2020 | Mortgage News

In the UK, the self-build mortgage market is still very niche.  This means that the selection of lenders and products is much more limited than it is for the standard residential mortgage market.  It is therefore highly advisable for anyone considering a self-build to learn about how lenders view the market so they can understand what is available to them and what lenders want to see in potential borrowers.

Self-build mortgages are riskier than residential mortgages

From a lending perspective, the worst-case scenario (which they must consider) is that a borrower defaults on their mortgage.  When this happens, the property on which the mortgage is secured will be sold and any proceeds will be given to the creditor (up to the remaining value of the loan).

With self-build mortgages, however, there may not be a property to sell, at least not a complete one.  This reduces the pool of potential buyers considerably and hence increases the lender’s risk.  Even when there is a property, there is a risk that the builder will not have completed it to acceptable standards, thus lowering both its value and the level of interest it will generate on the markets.  Buyers should, therefore, be prepared to address these concerns.

Self-build mortgages come in two main types – arrears and advance

The single biggest difference between a self-build mortgage and a standard residential mortgage is that with the former funds are released in line with development milestones whereas with the latter funds are released when you complete the purchase.  Self-build mortgages may or may not include the buying of the plot as a development milestone.

With arrears self-build mortgages, the borrower has to put up the capital to meet the milestone and then, when it is complete, the lender will release the funds to them.  In other words, using an arrears self-build mortgage minimizes the amount of working capital you need.  It does not eliminate the need for you to have your own funds.  Arrears self-build mortgages are the more common form of plan.

With advance self-build mortgages, by contrast, the funds are released before the milestones are met.  Remember, however, that these days it’s highly unusual to get any sort of mortgage at a 100% loan-to-vehicle rate.  With self-build mortgages, 75% to 80% is more likely.  This means that you will need some working capital of your own, albeit less than with an arrears self-build mortgage.

Self-build mortgages are generally more expensive than standard residential mortgages

You should expect to pay higher interest rates for a self-build mortgage than for a standard residential mortgage.  This is partly because of the increased level of risk and partly because of the reduced level of competition in the market.  You should also be prepared for arrangement/introduction fees.

As with all mortgages, you can expect your application to be scrutinized thoroughly.  In addition to convincing your lender that you are financially sound, you will also need to convince them that you know what you are doing with the proposed build.  Remember that in the residential mortgage market a lender can get a professional surveyor to give an opinion on a completed property.  They may also have data on the sales of comparable properties.  With self-build mortgages, however, they have far less information available to them.

Self-build mortgages can be converted to residential mortgages

Once a self-build property is complete, you have potential access to all the mortgages in the standard, residential market.  These can be much more competitively-priced, however, as always, you need to do your sums carefully before deciding whether or not to switch and, if so, when and to what.  Remember that there will be costs in moving from one mortgage-lender to another (plus administration) so you want to be sure that these are justified.

Your property may be repossessed if you do not keep up repayments on your mortgage.