Interest in equity release
Older borrowers with interest-only mortgages may find that equity release could provide a solution to repaying the debt. Stephen Lowe of Just Retirement explores the issue
They say that hangovers get worse with age. We may never live to see a repeat of the great property party of the noughties, but that won’t ease the financial headache felt by older borrowers caught in mortgages they are going to struggle to ever repay.
The Financial Ombudsman Service recently touched on this in its annual review. “We continue to see disputes about decisions by lenders to reduce significantly the upper age-limit applying to the term of a mortgage – or to require the consumer to provide proof of their income in retirement (or to show how they intend repaying the mortgage after they retired).”
Tightening the rules
If years of easy credit contributed to the property bubble, then it is no surprise regulators and lenders are now tightening the rules to ensure that in the future people can afford to pay back what they borrow.
The Financial Services Authority has proposed strengthening lending standards but said it does not want a total ban on interest-only mortgages. Even so, interest-only borrowing has been sharply curtailed with 96 per cent of first-time buyer loans set up on a repayment basis last year, compared to just 12 per cent in 1988.
This still leaves millions of existing borrowers sitting on interest-only deals that will mature in the coming years and there are fears that significant numbers, including many retirees, will not be in a position to pay back the capital at maturity.
Over the decade from 2011-20 it is expected that £120 billion of interest-only loans will reach maturity. The regulator forecasts that 60,000 of the 150,000 loans reaching maturity each year will need to be extended rather than being paid off. Seven in 10 of these extended loans will be held by the over 60s and the vast majority – 87 per cent – will have no repayment strategy in place.
Ticking time bomb
Given the size of the issue, it is no surprise that earlier the FSA included repayment of interest-only mortgages as a ‘potential concern’ in its Retail Conduct Risk Outlook. This was followed up by an appearance before MPs by senior regulator Martin Wheatley who told the Treasury select committee that the issue was a “ticking time bomb”.
The MPs were concerned that imposing more conservative lending criteria would create problems for people on interest-only deals, denying those who fail new affordability tests the chance to roll over into a new loan. Some transition arrangements have been proposed in the Mortgage Market Review, but ultimately it seems lenders will be under no obligation to extend the loan.
The Council of Mortgage Lenders believes the description of the issue as a ticking time bomb is “overstated”. “The proportion of borrowers unable to repay their mortgage at term is likely to be small, but difficult to quantify,” it said. But it does not have the data to identify how many loans have a repayment vehicle such as an endowment or ISA in place.
The problem, in a nutshell, is that we know the bomb is ticking but we don’t know how big the explosion may be. Will it go nuclear, or is it just a bonfire night banger that will quickly fizzle out?
We do know from the CML that this year 145,000 mortgages are due to mature with an average loan size of £59,000. That is £8.5 billion in repayments due this year. The FSA figures suggest 40 per cent of borrowers may not be in a position to repay which this year would mean 58,000 borrowers needing an alternative strategy, a number likely to be repeated in the coming years.
The CML has highlighted the need for lenders to communicate with affected borrowers but many of these know they are supposed to repay, they simply do not have the cash or any way of getting it quickly.
Many of these borrowers will have significant equity in their homes but this only helps where people either sell the home or the lender allows an extension on a rate of interest the borrower can continue to afford.
It is a particular problem for those approaching or in retirement who typically suffer an income squeeze after giving up work. If they had been unable to make capital repayments while earning wage, they will find it even more difficult while living on a pension. Downsizing may seem an obvious solution but in reality moving house is expensive and it can be emotionally fraught to leave a home and neighbourhood.
Instead we are seeing more people turn to equity release as one practical solution with an increasing number of enquiries from mortgage borrowers. The obvious appeal is that it works best for older people who want to stay in their homes but no repayments have to be made at any time.
Given the economic situation and regulatory change, it is difficult to imagine that we will see a relaxation of borrowing criteria in the near future. The problem of interest-only mortgages is with us right now and there is no certainty lenders will deal sympathetically with borrowers who cannot repay their loans.
Stephen Low is group external affairs and customer insight director at Just Retirement