Axing interest-only won't resolve the problems of today
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.