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A stretch too far could leave clients exposed

The cat was set firmly among the pigeons the other week with a big provider announcing that it was going to start offering mortgages based on 5 x salary.

There is much de-bate in the industry and the country around this move – is it helping people get on the property ladder or is it simply increasing the amount of debt that consumers already have and leaving them even more vulnerable to changing interest rates?

Which camp you’re in when answering this question probably depends on your circumstances. Someone who is earning an above average salary and feels secure in their job might feel quite comfortable taking on a mortgage based on 5 x salary.

And if the lenders that are offering these mortgages make their decisions based on tight criteria around credit rating and type of job it could be that this is simply a way of helping more people onto the housing ladder.

It would be good to think that people always take on debt in a responsible way but we don’t need to look far to see that responsible borrowing isn’t as widespread as we would like.

Just consider the 1.2trillion debt mountain we face in this country and the fact that the people in the UK put twice as much on credit cards as the rest of the EU combined.

The effect of this can be seen in the most recent insolvency figures for England and Wales for July and September which show a 55% increase on the same period last year. The big question playing on my mind is – how much of this could have been prevented if people had the right protection plans in place?

Taking a look at the average person in the UK (government figures show the average UK salary is 22,900 and the average UK house price is 179,000), we can see the difference on household spending if a mortgage was taken based on 5 x salary instead of three.

Monthly payments on a 25-year mortgage with a 5.25% interest rate would be 694.06 compared with 416.44 for 3 x salary. This represents a huge increase in monthly outgoings, but one that many people may think they can still afford.

So if people stretch themselves with their mortgages, where does that leave their other essentials? In particular, where does it leave their protection?

If we start to see people cutting back on essential items such as this it could spell disaster if the worst happens. They will have even bigger debts to service with perhaps no ability to earn an income.

What’s more, if interest rates were to rise people could find themselves in even deeper water with bigger debts to service.

The Bank of England is expected to announce an interest rate rise soon which could see rates go up from 4.75% to 5%. If interest rates continue to rise, mortgage repayments could become difficult to meet.

For example, if rates rose to 8%, the average family borrowing 5 x salary would see an increase of nearly 200 a month in their payments at a time when they are probably already stretched.

Getting the first step on the housing ladder and continuing to climb isn’t easy and it isn’t likely to get any easier as property prices continue to rise.

But we must be aware that no matter how much people want to stretch themselves, we must ensure they are protected against things such as serious illness and disability because we know these things can and all too often do happen.

So let’s hope people don’t stretch themselves to get on the property ladder at the expense of taking out the cover they need.

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