View more on these topics

Dear Delia

My clients want to take out an interest-only mortgage and switch to a repayment mortgage in a couple of years. They have been renting for over three years but are not first-time buyers. Both work in London and earn basic salaries of 35,000 and 30,000 respectively. They also receive bonuses and commission. They want to buy a home in the next couple of months and have savings of 30,000 but two County Court judgements, with the latest registered four months ago. Is this a wise option?


Delia says: An interest-only mortgage is an option as Colin Barrett of edeus and Jonathan Cornell of Hamptons point out.

Intermediary response
Jonathan Cornell is technical director at Hamptons Mortgages

It’s always difficult to know how to define couples who are not first-time buyers but who are in rented accommodation, as they fall into the gaps between lenders’ definitions of categories.

This should not make much difference but it might affect the credit score they receive. People who have had mortgages in the past on which they have successfully made the monthly payments should receive a higher credit score than first-time buyers who have never had a mortgage.

It is impossible to say how much they can borrow based on their basic salaries. We would need to know how large their deposit is compared with the values of the properties they intend to buy.

If they want a high LTV their borrowing power is likely to be substantially less than if they are looking at lower LTV borrowing. It would be useful to know their levels of bonus and commission as if these are significant and regular most lenders will allow some or all of it to be used in calculating how much they can borrow.

They should repay their County Court judgements from their savings as soon as possible. It is unlikely that a mainstream lender would give them a prime deal as a result of their CCJs unless there are mitigating circumstances. But there are numerous sub-prime lenders that would be happy to lend.

Interest-only versus repayment mortgages is a topical debate. In theory, switching from interest-only to repayment requires little cost or effort but in practice it is likely to substantially increase the monthly cost of their mortgage.

The trouble is that unless borrowers are disciplined this switch becomes difficult as there are always other things to spend money on. For example, it may be that this couple will try to start a family. This may prove difficult if one partner stops working, given that their salaries are quite close compared with couples where one partner is on a much higher salary and stays in work.

But if that’s what this couple would like to do I would feel comfortable arranging it for them as long as they understood the risks if they do not convert to a repayment mortgage. It may be that they choose to repay the capital element of their mortgage from their commission or bonus via lump sum reductions rather than swapping to a repayment mortgage.

In many cases, for people who are on relatively low basic incomes but who receive substantial bonuses, interest-only mortgages are suitable as they don’t put too much pressure on monthly cash flow.

Lender response
Colin Barrett is head of products at edeus

Based on the fact that both partners work in London and will therefore most probably buy in or around London, they will be looking at a purchase price of around 269,000 or above. A deposit of 30,000 is a good start when it comes to getting themselves on the housing ladder.

In terms of income, the couple might decide to pursue a self-cert option given that they may need to take into account their bonuses and commission.

Some lenders will be happy to consider 100% of their bonus and commission payments on a full status basis, assuming these are guaranteed. Moreover, some lenders will calculate their borrowings based on affordability models, which should give a more realistic level of borrowing.

The two County Court judgements make the couple adverse customers but as neither of the CCJs have been registered three months prior to application, they would be eligible for our near prime adverse range (given that the CCJs total less than 1,000, which I will assume).

This case should fit full status and as the applicants are defined as near prime we could offer them a two-year tracker rate of 6.44% at 90% LTV. This would also include cashback of 250. At 90% LTV the clients would avoid paying a higher lending charge which would be a great advantage.

Technically they would be treated as first-time buyers as they haven’t had a mortgage for the past three and a half years, but in this case edeus would make no distinction between first-time buyers and those who are not, and we could advance them up to 350,000, income permitting.

If having sufficient cash flow in the early years is a concern the couple might take out an interest-only mortgage, although this is not something that should be considered lightly, particularly given that it is an issue the Financial Services Authority has shown an interest in recently.

Obviously, an interest-only mortgage represents a risk to clients, particularly if there is a decline in house prices. Should a broker decide to arrange an interest-only mortgage they should ensure the risks are clearly explained to and understood by their clients.

That said, this couple could maintain interest-only payments, swapping to a repayment mortgage once their cash flow situation improves. We allow clients to overpay so they can overpay 10% of their debt back without penalty. If these clients choose an interest-only deal, they could use this feature when their cash flow situation improves.

Recommended

Victoria reveals product relaunch

Victoria is withdrawing its entire current product range with effect from January 29, with new pricing on January 22.Cases under the withdrawn range must have been submitted by the end of January 29, with fully packaged cases ending February 12.The timetable for withdrawal of the winter special product is unchanged. All winter special cases must […]

AIFA welcomes financial capability scheme

The Association of Independent Financial Advisers has given its support to the governments financial capability scheme, which will see the launch of a national generic financial advice service. Chris Cummings, director general of AIFA, says: Any move to improve financial understanding and capability among the general public is a step in the right direction.“We believe […]

First And Last

Our first home was a modern-style three-bedroom terrace in North London. We bought it in the days before competition revolutionised the mortgage market, when even saving for 10 years with your local society didn’t guarantee you a mortgage. Having been let down by our local lender, Halifax agreed to provide most of the finance with […]

Abe and Modi

Investment ideas to power returns

We believe the most exciting stockmarket opportunities today are in those places where a new generation of leaders are successfully transforming economies and companies in favour of investors. In a new investment guide and website, which is suitable for use with your clients, we set out our views on these reformers. Click here to find […]