MMR: Affordability may be assessed on interest-only basis

19 December 2011 | By Natalie Thomas

In its Mortgage Market Review proposals, the FSA says while as a general rule mortgages should be assessed on a capital and interest basis, where a consumer has a clearly understood and credible strategy to repay the capital at the end of the term, affordability may be assessed on an interest-only basis.

It says this is allowed where the repayment strategy requires the borrower to make a continuing financial commitment, such as making payments into a savings or investment policy, we are proposing that the affordability assessment must take the cost of this into account as ‘committed expenditure in the normal way.

In the next 10 years it estimates that around 1.5m interest-only mortgages worth around £120bn will be due for repayment and half of all interest-only mortgages have no repayment strategies.

It says lenders will be allowed to consider repayment strategies according to the individual circumstances of each consumer, within a framework of appropriate controls.

Examples of possible repayment strategies it gives include:

• regular savings into an investment product;

• sale of other assets, such as property or other land owned;

• periodic repayment of capital from irregular sources of income (such as bonuses or some sources of self-employed income);

• on death, for example in the case of a lifetime mortgage; or

• sale of the mortgaged property, where this is a credible strategy because of down-sizing or repayment at death.

The regulator also believes that purely speculative strategies should not be accepted, such as reliance on increasing house prices, or an expected, but uncertain, inheritance.

It also has particular concerns about the sale of the mortgaged property as a repayment strategy during the life of the borrower. While in some circumstances this may be an acceptable strategy, it poses risks for both the lender and consumer.

It wants lenders to have a clear framework in place to assess interest-only applications, which should form part of their wider responsible lending policy. This policy should be considered and signed-off at Board level.

It also wants lenders to obtain evidence of the repayment strategy before entering into the mortgage, and that they lend only where, as far as they are reasonably able to assess, it is has the potential to repay the mortgage.

The FSA however says it does also not propose to restrict interest-only from being used, where appropriate, on a temporary basis as a forbearance method for borrowers with, or at risk of, payment difficulties.

For intermediaries it is simply proposing they alert the consumer to the fact that they will have to demonstrate to the lender that they have a clearly understood and credible repayment strategy in place.

This does not mean that intermediaries are under any obligation to determine whether the consumer’s capital repayment strategy will in fact repay the capital element at the end of theloan, nor does it mean that the intermediary is required to provide advice on the proposed strategy.

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