What financial black hole?

Last week’s claim by Citizens Advice, that one million interest-only mortgage holders are in a ‘financial black hole’ because they have no means of paying off their mortgages are greatly exaggerated, writes John Wriglesworth, managing partner at Instinctif Partners, international business communications agency.

The figure is greatly higher than the 280,000 the Financial Conduct Authority estimated two years ago, but this did not deter Citizens Advice claiming that interest only mortgages have forced many into a 'financial black hole' that will result in many borrowers having their homes being repossessed by their lenders.

These claims are vastly exaggerated!

First, the fact that nearly one million have no plans to repay loans does not mean they are not able to. Many may have sufficient investments elsewhere or could be in line to receive a significant inheritance.

Second, house price inflation since the ‘90s (when most of the maturing mortgage loans were taken out) has averaged over 140%. Thus the value of these loans are likely to be only a minority of the value of the property.

Having high equity in their homes should allow the borrowers to easily remortgage. Or, if they are over 55 years old, they have the option to take on an equity release mortgage that will enable them to stay in their homes for the rest of their lives with no future repayments. None of this implies borrowers are falling into a 'financial black hole'.

However, there will be some borrowers, probably a few thousand, who, as a result of taking out an interest only loan, have no way of paying the loans back. For these the only option will be to sell their homes and move to a less expensive property or to rent. Citizens Advice suggests we should see these people as victims of irresponsible lending and are calling on lenders to do more to help these borrowers.

While one can have some sympathy for those borrowers having to sell up their homes to pay off their mortgages, there should be no question of letting them off these loans. All the borrowers that took out an interest-only mortgage were told clearly that their monthly repayments would not reduce their mortgage balance. Even Citizen Advice accepts buyers were warned.

One should also note that anyone selling a property to repay a loan, is likely to have a significant cash sum after the loan has been paid back, something they could not have had if they had not purchased the home in the first place.

Take, for example, a family purchasing an averagely priced house of £82,000 in 1999 with 100% mortgage. Today this home is worth £199,000, so this family will be £117,000 richer as a result of buying a home with an interest only mortgage.

Citizens Advice claim that lenders should have made sure the borrowers could pay back the loan. This is, of course, a ‘Nanny State' defined!

The Financial Conduct Authority now does insist that all lenders demand proof of how borrowers with an interest only mortgage will pay back the amount owed. This has now led to a vastly reduced number of interest only mortgages sold.

While many may say this is a good thing, it also means that the number and diversity of mortgage types has reduced.

Along with 100% mortgages, the death of interest-only mortgages implies much less suitable mortgages are available for those seeking to get on the housing ladder for the first time.

This is therefore forcing more people into rented accommodation, which is pushing up rents, and making it even more difficult for first time buyers to save for a deposit.

This is a classic example of the law of unintended consequences, where the regulator, in trying to protect borrowers, has made it more difficult for renters to get on the housing ladder!