Three years after Britain’s mortgage lenders effectively shut their doors to people wanting to avoid paying back the capital on their loans each month, interest-only mortgages are making a comeback.
The deals, which allow people to keep their mortgage repayments down as only the interest and not the capital is repaid each month, became popular in the early 2000s as they were increasingly taken up by people struggling with affordability.
By 2007 a third of mortgages being taken out were interest-only, according to statistics from lenders, and the vast majority of borrowers had no repayment plan for the outstanding capital, but were instead relying on an increase in their property value to repay the loan. By the end of 2012, after tightening their mortgage rules, most lenders had either stopped lending on an interest-only basis or had severely restricted this type of loan.
Now, Barclays has become the latest lender to loosen the criteria on its interest-only deals for people who intend to use the capital from the sale of their home to repay the loan. It follows a similar relaxation of criteria by Leeds building society and, before it, Santander.
Barclays will now lend on an interest-only basis up to a maximum loan-to-value (LTV) of 75% in cases where the sale of property is being used as the repayment vehicle . Previously this was limited to 50% LTV. The caveats are that the extra 25% worth of loan will have to be repaid as capital and interest, and only applicants with a sole income of £75,000 or joint income of £100,000 or above will be considered.
“We have been saying for some time that lenders should do interest-only for the right borrower,” says Andrew Montlake of mortgage broker Coreco. “Interest-only itself has never been bad, but it has been used badly before.”
Leeds and Santander will also lend interest-only up to 75% LTV, on the same part-interest-only, part-repayment basis. Neither lender has a minimum income requirement, but Santander says applicants must have at least £150,000 of equity in their property.
Since it increased the LTV on its interest-only mortgages, Leeds says about 80% of the people taking out the loans have done so as a remortgage. “This is broadly in line with what we would have anticipated,” spokesman Martin Richardson says. “It is a useful middle way for a borrower who has an interest -only mortgage but hasn’t made progress in paying down the capital, as they can start to reduce this without the payment shock of switching to a full repayment mortgage.”
It is understood that RBS/NatWest is also planning to resume offering interest-only mortgages in the next few months after pulling out of the market in 2012. It is likely to introduce similar caveats as its rivals.
Some other lenders, particularly the smaller building societies, will consider offering interest-only deals on a case-by-case basis while others, such as the Yorkshire building society, have pulled out of the interest-only lending market altogether.
Mark Harris, chief executive of mortgage broker SPF Private Clients, says that the recent changes in this type of lending are “very encouraging”.
“Banks clamped down on interest-only borrowing as a knee-jerk reaction to lax lending practices, but we are now starting to see some relaxing of overly tight criteria,” he says. “Interest-only does have a place for the right borrower with a considered repayment strategy in place.”
As examples, he cites those who are self-employed or have irregular monthly income streams, or those whose pay is partly made up of bonuses.
“Interest-only can also suit those who get deferred bonuses, where the income is paid to them at a future date, or with large pension pots that allow sufficient tax-free cash to be taken to repay the mortgage,” he says. “It can also be helpful for those with a joint mortgage where one of the contributors is on a career break – for maternity leave, for example.”
The recent changes may be more in line with what the Financial Conduct Authority had in mind when it initially tightened up lending criteria. Despite the fact that the FCA once described this type of mortgage as a “ticking timebomb”, it has also expressed concerns about how far lenders have gone with their clampdown.
In his first comments as head of the newly formed FCA in 2013, Martin Wheatley said: “There are two sides to the risk equation – consumer detriment arising from the wrong products ending up in the wrong hands, and the detriment to society of people not being able to get access to the right products.”
The key to making interest-only work is for borrowers to have a robust plan in place to pay off the capital that must be deemed acceptable by the lenders, Harris says.
“If you are planning to downsize, for example, there must be enough equity in the property to enable you to do so,” he says. “Those hoping to win the lottery or inherit a lump sum from an elderly relative will find that this ‘strategy’ won’t be acceptable to any lender.”
