Axing interest-only won't resolve the problems of today
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There are no shortage of countdown clocks ticking - for the Olympics, the Retail Distribution Review, Solvency II, to name but a few. However, only one of them has officially been branded a ticking time bomb.
Martin Wheatley, managing director of the conduct business unit at the Financial Services Authority, appeared before MPs earlier this year and touched on the issue of whether home owners with maturing interest-only mortgages have the ability to repay the capital.
Wheatley, who will soon take over as head of the new Financial Conduct Authority, told the Treasury Select Committee that the issue was a ticking time bomb that has been created over the past 20 years.
This isn’t the first time this matter has been raised. Earlier this year the regulator included the repayment of interest-only mortgages as a potential concern in its Retail Conduct Risk Outlook.
The issue dates back at least 20 years with the sales of vast numbers of interest-only mortgages backed by endowment policies to buyers hoping for strong returns.
Borrowers are probably aware they need to clear their mortgage but do not have the money to do so
Poor investment performance and endowment mis-selling dashed those hopes, causing many people to stop investing and to seek compensation.
The boom in house prices and lax lending standards in recent years encouraged more people to choose interest-only as a more affordable option with the idea of moving to repayment when they could.
The FSA expects about 150,000 interest-only loans will mature each year in the decade from 2011 to 2020, around £120bn of borrowing in total.
It forecasts that about 40% or 60,000 loans a year will not be paid back, in many cases because there is no repayment strategy in place.
This is of particular concern because it also recognises that the majority of borrowers who are unable to repay their loan will be aged over 60. This raises the question, if they are not in a position to repay, when will they ever be?
Some could downsize but our experience is that when push comes to shove, many people are either not ready to leave or are put off by the high costs of moving.
The option of just rolling over on to a new interest-only loan also seems to be fast disappearing due to stricter lending criteria from lenders and proposals in the Mortgage Market Review.
Equity release is one of the few realistic options mortgage advisers should consider for clients who are running out of time.
The number of enquiries we are receiving from home owners facing this problem is already starting to build.
As for other ways to lessen the impact of this time bomb, they are hard to spot. The Council of Mortgage Lenders appears to believe that better communication with the borrowers affected to explain the problem will reduce the size of the blast.
The truth is that borrowers are probably well aware that they have a responsibility to clear their mortgage, but they do not have the cash and no likely way of getting it in time.
Killing off interest-only mortgages for standard borrowers may be a good policy to head off trouble in the future.
It won’t, however, deal with the problems of the present.
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Readers' comments (3)
Anonymous | 8 May 2012 2:48 pm
Why do customers on interest only expect to just stay in the house ? You would not expect to keep any other item that you havent paid for would you ?
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Lorna Bourke | 8 May 2012 5:29 pm
Well he would say that wouldn't he. No doubt there will be some people who won't be able - or won't want - to pay off their interest only loan. But the number who have little or no equity and therefore virtually no choice is very few. Figures from the CML show that there are around 3.9 million outstanding interest-only mortgages. Of these, two thirds are set to mature after 2020. With at least eight years to go the vast majority of these borrowers have time to put in place some sort of repayment plan if one doesn’t exist already – though they must get on with it and not bury their heads in the sand. In the meantime, the number of interest-only mortgages set to mature each year until 2020 is between 131,000 and 158,000 a year – a drop in the ocean compared with the 7.3 million capital-and-interest mortgages currently held by UK consumers.
These interest-only loans scheduled to mature in the next few years are, on average, small compared with the value of the property. The CML says that for loans maturing over the next three years, over half have an equity stake of more than 70% of the property’s value, and a further third have a stake of more than 45% of the property value. The average interest-only loan due for repayment this year is £59,000. Clearly where there is plenty of equity in a property the lenders need not worry about losing money and can afford to make concessions.
But there is a potential problem. The CML estimates that there are 6,000 interest-only mortgages - just 1% of all interest-only loans due to mature over that time – with less than 10% equity. These are likely to be relatively new loans, often given to first-time buyers to make repayments affordable, which were taken out on a short-term interest-only basis. These borrowers may well have plenty of time to switch to a repayment loan – provided they can afford to do so.
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Anonymous | 9 May 2012 9:12 am
(anonymous 8/5) I think you've missed the point. The numbers involved can't all just move out as you are suggesting, and if they do , where is the property market going to go. Who is going to buy and where do all these people live. Pre actioon protocols would not condone such a draconian approach by lenders. They will mostly move in time and when they can afford or are ready to downsize but in the meantime the industry has to find appropriate flexible solutions. If the borrowers can afford to maintain interest on the debt and perhaps a small capital payment on top until they sell, how does the lender suffer? Bear in mind that these mortgages were badly sold in many cases. Also I can recall that they were originally described as 'Permanent Mortgages', with investment vehicles being the device to redeem. In fact some had 99 years as the quoted term on the original offers.
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