Brexit rate rise: A time bomb under interest only mortgages?
With nearly 1.5 million interest only mortgages due to mature this year there are fears they could be time bomb waiting to explode under UK finances.
Interest only mortgages were popular before the crash in 2007, because the monthly payments were much smaller than traditional repayment mortgages. These repayments only cover the interest on the debt, not the principal loan amount, which still needs to be paid back at the end of the end of the mortgage term.
Now the Financial Conduct Authority are warning that, following previous peaks in the sale of interest only mortgages, they are expected a wave of repossessions starting this year, as millions of people reach the end of their loan period with no way to pay off the capital debt.
Now, however, there are growing concerns that this situation could get a lot worse if interest rates were to rise.
Will interest rates go up?
UK interest rates have been held at historically low levels, currently only 0.25%, since the credit crunch and recession which began in 2007. Rates were slashed in order to make it cheaper for banks to borrow and therefore make it cheaper for them to lend.
But with the British economy continuing to grow following the referendum to leave the European Union and inflation starting to increase, the Bank of England’s Monetary Policy Committee, which sets interest rates, may look to increase rates in order to stick to its 2% inflation target.
Speaking earlier this year, Kirsten Forbes, a member of the Monetary Policy Committee, said; “In my view, if the real economy remains solid and the pickup in the nominal data continues, this could soon suggest an increase in the Bank Rate.”
Economic uncertainty caused by the Brexit vote is also fuelling speculation that a rate rise might be imminent. With Britain’s existing trading relationships uncertain, there is a need to attract new foreign investment. Higher interest rates could help to make Britain a more appealing environment for investors by increasing the return they receive from their investments.
What will happen if rates go up?
The interest banks charge on their mortgages is based on a number of factors, not all of which are linked to wider interest rates, such as market competition, but any decision by the Bank of England to put rates up would almost certainly lead to anyone with a mortgage owing larger monthly payments.
Many homebuyers took these mortgages because they needed the lower monthly repayments for the mortgage to be affordable, so any increase could lead to them falling into arrears.
Some buyers might be able to switch to a repayment mortgage, but this could lead to even higher monthly payments.
For example, a homeowner with a £100,000 interest only mortgage outstanding with a 4% interest rate and ten years left on the loan would see monthly payments rise from £333 to £1,027 if they moved to a repayment deal.
For many homeowners, these increases will simply not be affordable.
What can be done?
There are a number of possible solutions, but none of them are easy or risk free.
It might be possible to sell the house and downsize, but if the property has lost value since the loan was taken and the mortgage is interest only, then the homeowner will be in negative equity and the proceeds from selling the house will not be enough to cover the debt, let alone to make a deposit on another property.
In some cases it might be possible to extend the loan term, but most lenders will be reluctant to do this if without evidence that the debt can be paid. They may also be unwilling to extend the term if the borrower is above a certain age, with many banks capping the age of borrowers at 75.
Some people may also have other savings or investments they could use to clear the debt, but for many people these savings are needed to pay for their retirement and using it could have other financial repercussions.
None of these possible solutions is simple or risk free, but Negative Equity UK can offer experienced and professional advice and assistance for anyone struggling to repay their interest only mortgage.