The age of interest-only mortgages is over

By Staff Writer Ruth Jackson Aug 13, 2010

Ruth Jackson

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If you've got an interest-only mortgage (the sort where you make interest payments every month but leave the capital part of your debt untouched) the Financial Services Authority (FSA) is worried about you. It believes that over a million people who were sold interest-only mortgages between 2005 and 2009 have no actual loan repayment plan.

It used to be that lenders wouldn't give interest-only loans without some evidence that borrowers had some kind of savings plan in place. But it seems many didn't bother with this bit in the dizzying heights of the housing boom. And borrowers have been equally lax about saving up. "Borrowers need a plan to repay the capital that does not rely on house-price inflation or unrealistic intentions to downsize to a smaller property at the end of the term," warns the FSA.

The FSA believes this problem could really explode between 2024 and 2033, when interest-only mortgage deals given out in the boom reach the end of their term. But the problems could begin sooner than that.

The first thing to worry about is negative equity, which you're more likely to hit if you never reduce your loan than if you do. That's a major problem if you want to remortgage. But even if you aren't in negative equity, it's going to be hard to remortgage an interest-only deal. With low equity levels, you're likely to find there aren't many deals on offer.

You'll be back to looking for a mortgage with what is effectively a fairly small deposit in a market where lenders have become pickier than they were. Worse, with interest-only mortgages disappearing from the market as lenders react to the FSA's concerns, it's likely that the only thing you will be able to get is a repayment mortgage – and that's going to bump up your monthly payments significantly.

So what do you do? The best thing, if you can afford it, is to switch to a repayment mortgage immediately. If you think that might be a struggle over your current term, you might extend your mortgage. The monthly payments on a 35-year mortgage will be lower than on a 25-year one, for example. Failing that, as a matter of urgency, set aside whatever you can every month so that when the time comes to remortgage, you'll have a nest egg to add to your equity so that you can apply for a smaller mortgage. It is time to start thinking beyond interest-only.

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Published in Personal finance | More articles by Ruth Jackson

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  • 1. neil

    (13 August 2010, 06:28PM)  Complain about this comment

    this is all very noble but what of those of us who still have these products?

    many (including me) have tried to sell our homes for three years years and are now deep in negative equity.

    so we are unable to leave these deals when we are being pressured to do just that!

    in 16 months ill be evicted and bankrupt despite having never missed a single payment on a single bill, and am still able to repay my home.

    all because im now deemed a bad risk.

    expect thousands more distressed sales, bankrupties and worse, all in the name of fixing the market.

    n

  • 2. Jon E Boy

    (17 August 2010, 04:43PM)  Complain about this comment

    I think the interest only mortgage scandal will become apparent sooner than 2026.

    People have probably been using IO for at least 15 years already without any repayment vehicle - some because they are too thick to understand that interest only doesn't pay off the mortgage.

    So in under 10 years those 25 year mortgages will become due to have the capital repaid and the "owner" will get a massive financial shock, finding that they still owe the full original sum (plus any further "mortgage equity withdrawal" i.e. more debt!).

    No doubt it will generate much work for the claims lawyers - "have you been mis-sold a mortgage?".

  • 3. Jon

    (17 August 2010, 05:23PM)  Complain about this comment

    ...and the early 1990's endowments failing to live upto expectations leaving shortfalls to be filled as reach their 25th anniversary and mature over the next few years

  • 4. Iain

    (17 August 2010, 05:58PM)  Complain about this comment

    Neil- Why will you be bankrupt and evicted. Your mortgage companies don't care that you are in negative equity as long as you keep making your payments. Live in the property and pay the mortgage. Pay whatever you can off the capital. Hope that property prices start to move up again.

    And why would you be deemed a bad risk. If you are making your payments every month you are anything but.

    ------------------------------------------------------------------(not in relation to Neil)

    Many people did make bad decisions, many people are in negative equity. Many people in this society now think bankruptcy is the way out. Much more so than the last housing slump because the stigma is gone. I'm not sure this a good thing.

    But then i have buy to lets and a depressed market makes it a great time to shop.

  • 5. neil

    (18 September 2010, 03:24PM)  Complain about this comment

    to answer.

    my mortgage is allso a self cert type. as it is now impossible to remortgage i am stuck with the standard variable rate. as rates go up i will be forced out.

    shame really.

    neil

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