Homeowners with an interest-only mortgage and no way to repay it when their term ends have been told stop burying their heads in the sand and face up to reality.
A stern warning from the UK financial services watchdog says there are 1.67 million people in Britain with either a part or full interest-only mortgage – equivalent to 17.6 per cent of mortgaged homeowners in the UK.
Many of these borrowers are coming up to the end of their 25-year terms and have no idea how they’ll repay their mortgage.
Shifting to a repayment mortgage is an almost impossible task for those with little time left to run. A borrower with five years left and an £80,000 debt on a 4.5 per cent standard variable rate could see monthly payments rocket from £300 to £1,520
Many customers remain reluctant to discuss their interest-only mortgage with their lender
But instead of contacting their lender to see what their options are, the Financial Conduct Authority has discovered that many of these borrowers are simply ignoring the problem.
The FCA warned that this could realistically lead to large numbers of them ultimately losing their homes as lenders are forced to take possession of properties in order to settle the debt.
Jonathan Davidson, of the FCA, said: ‘Since 2013 good progress has been made in reducing the number of people with interest-only mortgages.
‘However, we are very concerned that a significant number of interest-only customers may not be able to repay the capital at the end of the mortgage and be at risk of losing their homes.’
He added: ‘We know that many customers remain reluctant to contact their lender to discuss their interest-only mortgage for a variety of reasons.
‘We are very clear that people should talk to their lender as early as possible as this will give them more options when it comes to the next steps they can take.’
How big is the interest-only mortgage timebomb?
There are currently 1.67 million full interest-only and part capital repayment mortgage accounts outstanding in the UK.
The FCA is ‘very concerned’ that a ‘significant’ number of interest-only customers may not be able to repay their mortgage and risk losing their homes
They represent 17.6 per cent of all outstanding mortgage accounts and over the next few years increasing numbers will require repayment.
In 2013 the FCA identified three residential interest-only mortgage maturity peaks.
The first peak is happening now and it’s likely these borrowers have lower mortgage debt, higher incomes and are approaching retirement, according to the FCA.
They’re hoping this means the first round of interest-only borrowers will be able to manage the problem relatively easily.
However, the next two peaks in 2027/2028 and 2032 include less affluent individuals.
They borrowed on much higher income multiples at the point of application, show greater rates of mortgages converted from repayment to interest-only and are likely to have built up far less equity in their homes.
The concern is that these are the homeowners who are more at risk of shortfalls.
The FCA found that most lenders have written to interest-only customers asking them to get in touch, but too many borrowers aren’t engaging.
The watchdog also said where borrowers were contacting their lender, they were being made to jump through ‘challenging’ hoops before a solution was reached.
This included delays in getting to speak to advisers, making multiple phone calls and repeating information previously provided.
Don’t bury your head in the sand: The FCA is forcing lenders to be reasonable and aid you as much as they possibly can to find a solution if you’re worried about what to do
If you have an interest-only mortgage
Don’t bury your head in the sand. The FCA is forcing lenders to be reasonable and aid you as much as they possibly can.
First, get in touch with your existing mortgage lender to find out how big the problem is. It may be that you have savings or a pension pot you could reasonably use to repay the loan, in which case there’s little to worry about.
If you don’t have any savings, it may be possible to sell your home and downsize without needing a new mortgage, allowing you to settle the debt this way.
If this isn’t an option either, then there is a range of other options available.
If you are on a full interest-only loan, you could switch to a part and part capital repayment.
WHAT THE FCA SAYS
The FCA has published a leaflet on interest-only mortgages and how to deal with paying them off.
You can read it here.
Your lender will look at what you can afford to pay on the mortgage each month and transfer you onto a mortgage that means you’re paying off some of the loan as well as the interest each month.
This will start to bring your debt down over time, and as it goes down, you can switch to paying more and more of the loan off as the interest gets less.
This might prove trickier for those with a bigger outstanding balance. For example, a £80,000 mortgage on interest-only paying the average standard variable rate of 4.5 per cent has monthly repayments of £300.
If you have five years left on your term, switching this to a full capital repayment loan would see monthly payments shoot up by £1,218 to £1,518 a month.
This is why most lenders will move you to part and part, so the payment shock isn’t so acute.
If you’re very close to the end of your 25-year term, your lender might also look at extending this term to help you keep the cost of your monthly payments down.
Most lenders will approve a mortgage term up until the age of 70 with many accepting borrowers much older than this providing they can demonstrate how they plan to pay the mortgage each month.
The longer the term, the lower the monthly repayments. However, you’ll take longer to repay the mortgage overall so you’ll pay more interest. It’s therefore generally a good idea to keep the term as short as you can manage.
Depending on your circumstances, you might find you can remortgage your loan to another lender.
Mortgage rates are very low at the moment, so if you’re paying your existing lender’s standard variable rate then it’s likely remortgaging will save you money every month. This could be hundreds of pounds depending on the size of your mortgage.
With this option, it’s likely you’ll have to switch to a repayment mortgage and you’ll need to be able to demonstrate your income and monthly expenditure still means you can afford to make the mortgage payments.
Remortgaging with your existing lender is likely to be easier as the FCA has rules – known as ‘transitional rules’ – that allow them to be a bit more lenient.
This means that if you are already at the limit of what you can afford to repay each month, your lender can take this into account when trying to help you find a solution.
It may be that this route could bring down your interest rate, giving you some room to start paying back some of the loan too.
New lenders have to adhere to stricter rules that mean you must be able to prove you can afford the new loan.
Interest-only Mortgage Timebomb Calculator
This calculator shows borrowers with no plan to repay an interest-only loan, or whose investments have fallen short, how much extra you may have to find if your lender forced you on to a repayment mortgage.
Are you over 55?
The FCA’s recent Financial Lives 2017 research identified that 70 per cent of all interest-only and part capital repayment mortgages are held by customers aged over 45.
This means their ability to remortgage their debt onto a new term is more limited and could prove prohibitively expensive.
If you’re older and are set to retire soon, you may find it a bit trickier to extend your mortgage term or remortgage.
FIND OUT ABOUT EQUITY RELEASE
This is because most lenders have an upper age limit on mortgage lending. You also need to be able to say how you plan to meet monthly mortgage payments after you retire.
If you know you aren’t going to be able to afford this, then you could either choose to downsize or take a look at equity release.
In the past year or so, equity release options have become a lot more flexible and affordable.
It’s now possible to remortgage your interest-only loan to a retirement lender, keeping it as an interest-only loan and continuing to pay the interest monthly.
When you retire and don’t want to pay the monthly interest anymore, you can switch the loan to a lifetime mortgage. This allows you to roll up the interest monthly into the loan. The debt is then repayable when you or your beneficiaries sell the property.
This can be expensive as you pay interest on the interest over time, but rates have come right down over the past few years and it’s now possible to get a rate as low 4 per cent.
To qualify for equity release, you need to be over the age of 55.
MORTGAGE ADVISERS SPEAK OUT
Jonathan Harris, director of mortgage broker Anderson Harris, said: ‘Lenders need to give borrowers time and methodology to find a solution to the interest-only problem. Banks don’t want to be foreclosing on clients, especially those past retirement age who will be deemed vulnerable borrowers.
Borrowers must seek advice – there is plenty out there
‘Ideally, lenders should be doing more to make proper contact with borrowers but based on volumes, this might not be practical. There is now greater emphasis by lenders to channel advice through mortgage brokers and an attentive and knowledgeable broker will be able to bridge the gap between customer and lender.
‘Borrowers must seek advice – there is plenty out there. The trouble is that many calls into a lender are fielded by call centre staff without the appropriate level of expertise.
‘As brokers, we often see interest-only borrowers who are the most difficult to help because they are on low incomes, past retirement age or are not engaging with the lender. The problem is there are still limited options available across the market with too much reliance on bridging and lifetime mortgages as potential solutions.’
Daniel Hegarty, chief executive of online mortgage firm Habito, said: ‘Interest-only mortgages provide an important service for many of the one in five homeowners signed to them.
‘This is particularly true of contractors, freelancers or others with irregular monthly incomes who need more flexibility when it comes to making monthly payments.
Many of those on interest-only mortgages are now nearing retirement and will find it harder to meet the income and affordability criteria for a repayment mortgage
‘But it’s important that those who take this option also have a plan in place to repay their mortgage in the future. The challenge today is that many of those on interest-only mortgages are now nearing retirement and will find it harder to meet the income and affordability criteria for a repayment mortgage.
‘For many, mortgages remain complex and opaque. For consumers to want to engage proactively in managing their mortgage over the lifetime of the loan, lenders need to provide fair alternatives, and fully disclose terms and conditions in language that is simple and clear.
‘Technology also means there are now many ways to engage, beyond an occasional letter in the post.’