The days of interest-only mortgages ‘may be numbered’

Tuesday 4th December 2012

NatWest became the latest major lender to stop offering interest- only mortgages this week, and the bank’s move was quickly followed by the Coventry Building Society.

NatWest and Coventry BS join the likes of Nationwide, the Co-operative Bank and Leek United Building Society which have also stopped selling interest-only home loans. These lenders are setting a trend with others expected to follow their lead.

Interest-only mortgages, where borrowers pay interest every month but do not pay off the capital until the end of the mortgage term, were popular during the boom years, when some property purchasers saw them as a way to maximise the amount they could borrow.

As house prices increased annually during the early-mid 2000s, homes looked like a solid investment; as safe as houses. There appeared to be little danger of investing falling into financial difficulty. Interest-only mortgages accounted for a third of all new mortgage borrowing in 2007, just before the property market collapse.

But while homebuyers were supposed to have an investment in place to repay the long-term debt, some investors gambled on property prices appreciating in value to enable them to cover the borrowing.

But the collapse in the housing market and decline in property prices has left some borrowers back to where they started, and in some cases, in negative equity and in a position whereby they cannot repay their outstanding loan capital. This has left mortgage lenders feeling increasingly uncomfortable and expressing greater concern about what some experts are dubbing the ‘next great banking scandal’.

Mortgage experts estimate that around one million interest-only mortgages will come to the end of their term between now and 2020 with no repayment plan in place.

Earlier this year, the Financial Services Authority called for interest-only to be offered only where there is a credible plan to repay the capital, rather than borrowers simply relying on their property appreciating in value.

Following the herd

Mark Harris, chief executive of mortgage broker SPF Private Clients, commented: “Interest-only is suitable and appropriate for a certain type of borrower. It is not suitable for everyone and in retrospect at the height of the market interest-only mortgages were dished out rather too freely.

“But it is a shame that lenders follow each other like sheep and are all reining in their interest-only lending,” he added. “The market desperately needs innovation to help people afford to move and buy properties.”

Niche product

Interest-only is increasingly becoming a “niche product”, the preserve of wealthier borrowers, according to Jonathan Harris, director of mortgage broker Anderson Harris.

He said: “It is a shame as you don't necessarily have to be wealthy to have a viable repayment strategy for an interest-only loan. For example, even if you are the sole heir to your elderly parents' estate, which would produce enough money to pay off your mortgage, most lenders would no longer take this as an acceptable repayment strategy.

“While the mainstream lenders on the high street are making it tougher to get an interest-only mortgage, the private banks continue to do nearly all their lending on an interest-only basis with five-year reviewable facilities. Only the wealthy would qualify for such loans, as they must meet the private banks' criteria, so this will not be an option for the vast majority. Interest-only mortgages are unlikely to disappear completely but there is a danger that they will only be available to the wealthy.”

Clare Francis, mortgage expert at MoneySupermarket, said: “It's a big decision for one of the country's largest lenders to pull out altogether and, if others follow suit, the days of interest-only mortgages may be numbered.”


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