Facing the Facts About Interest-Only Mortgages

House prices in major cities lead the way, reflecting a housing trend seen across the UK. London and other population centres represent some of the most expensive UK locations to buy a house. But the sellers’ market is not reserved for only the most desirable urban locations. High prices are a reality for house hunters, no matter where their searches are centered.

Low interest rates and strong employment numbers have helped push prices higher, fueling a decline in affordable housing. Some would-be owners are unable to meet the standards required for mortgages, so they are sidelined until their personal conditions improve. In addition to uncertainty faced by outsiders looking in, a number of borrowers are currently bound to mortgages, which may create problems for them. These interest-only home loans could leave some Britons short when the deals’ terms come to an end.

House Owners Seeking Stability

Investing in a house is a personal milestone, resulting from hard work and financial discipline. The trade-off for dedicating yourself to ownership is supposed to be stability and security, but financial pressure can interfere. Some experts warn of potentially disastrous outcomes for hundreds of thousands of UK borrowers currently paying on interest-only mortgages.

The Financial Conduct Authority (FCA) has made an effort to reduce risky lending since the mortgage downturn, regulating practices to ensure better outcomes. As a result, the number of interest-only mortgages issued in today’s housing market represents less than two per cent of the total. The number of interest-only loans peaked in 2007, when as many as forty per cent of mortgages were structured this way.

Despite efforts reducing the number of borrowers turning to interest-only financing, nearly two-million UK owners currently have the loans. Observers worried about the consequences point to several possible outcomes facing families that are not paying down their principal balances. The worst case scenario for many of these borrowers would mean selling their houses when the deals expire. One in ten of the interest-only borrowers probably don’t have loans arranged to finance their houses when their current deals expire. And it is thought many more face peril, switching from interest-only payments to higher, principal and interest payments.

Trouble Ahead?

The FCA is looking closely at a series of deals made in the 90’s. These endowment mortgages were often linked to investments in the stock market, designed to cover repayment of principal balances. Unfortunately, not all of the investments have performed as expected, leaving some borrowers without enough resources to pay back their mortgages.

Short-term financing solutions are available, without waiting for lengthy credit checks, but these temporary windfalls are usually only enough to cover expenses until payday. A lasting fix is needed for interest-only mortgage holders in distress.
Making matters worse, many of the borrowers are retired or nearing retirement, making it difficult for them to secure new mortgages. A relatively small number of these aging interest-only loan holders also lacks enough equity to use their houses as adequate collateral for new loans. Even rising house prices are not enough to lift their fortunes, without a workable equity ratio.

The debts are supposed to be fully paid when interest-only deals come to an end. But many Britons simply don’t have the funds in reserve or access to new credit needed to pay. These debtors often have no other recourse but selling their houses. And even those fortunate enough to convert from interest-only financing to repayment mortgages face substantial challenges. In many cases the switch doubles the monthly payment amount, and for owners with fewer years remaining, payments can triple – or worse.

Whether or not the soon-to-expire loans will cause widespread economic impacts is yet unknown, but the threat is very real for families unable to pay the loans or replace them with new mortgages. For some, selling is the only option when interest-only terms expire. Regulators are concerned, but until policy catches up with this housing reality, it is up to owners to find relief.

Paul graduated in 2001 with a degree in Finance. Since then he has gone on to work for several of the UK's most well-known financial institutions.

An avid blogger and a huge football fan, Paul is here to guide you through the ins and outs of personal finance and perhaps save you some money in the process!

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