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Debtor&#39s prison

Flexible mortgages, the new flavour of the month, are being offered by so


many lenders now that it is possible that about 25 per cent of all


mortgages and remortgages are now “flexible”.


That flexibility usually includes features such as the ability to take


payment holidays, the availability of extra borrowing above the initial


mortgage amount secured on the property, no enforced capital repayments to


reduce the loan and the ability to recall capital payments at a later date.


The borrower can, for example, pay off more in good times of cashflow and


then borrow it back to, say, pay a tax bill or if income falls while


starting a family.


Additionally, borrowing at mortgage interest rates will be available to


buy a car or anything which might otherwise entail expensive consumer


credit. These mortgages are really a flexible overdraft secured on the


property for typically 25 years, subject to an initial affordability check


and based on income at the time of the mortgage arrangement.


What could be more simple or logical? The calculation of the outstanding


interest calculated on a daily basis, reduces the actual level of int erest


paid and theoretically should lead to fairer mortgage settlement figures


for borrowers with repayment mortgages who change property frequently. They


clearly can be all things for all men and women.


But are there any snags?


I believe there are and a major problem may be building up for the future.


The much heralded flexibility can be a trap, with the temptation to avoid


the capital repayment issue and in some cases rolling up interest with a


further advance, additional to the maximum originally negotiated.


Those living an expensive or unaffordable lifestyle for a long time could


find themselves out of their home after 25 years. This could be made more


likely by falling property prices or a period of minimal property price


inflation, higher interest rates or a renewal of negative equity.


Changes in the borrower&#39s personal circumstances, such as employment


problems, health difficulties or even death of either borrower or


partner/spouse, could threaten the family security.


I think it is fair to say that the flexible mortgage potentially


encourages excess consumption and reduces savings.


The past 25 years has seen many properties rise in value by tenfold or


more. But this has not been universal over all of Britain. Inflation has


reduced the cost implications of mortgage debt, assisted now by current low


interest rates. This feature may not rescue borrowers to the same degree in


the future. I feel that lenders are taking a very relaxed view over


possible future problems.


Recent journalistic excess in the popular press condemning, out of hand,


mortgage endowment policies is leading to cancellation, and surrendering of


endowment policies, frequently leaving no life cover or alternative means


of paying the mortgage at the end of the term.


We know that many Peps have not been replaced with Isa plans dedicated to


mortgage repayment.


It is a pity that assigned life cover has been allowed to lapse as a


precondition for a mortgage. That neglect must place many vulnerable


dependants at risk where cover has lapsed and the borrower dies.


The wisdom of interest-only mortgages which lack a very sound appraisal of


how the capital will be repaid at the end of term must be questioned. It


would be sensible to arrange a regular update of the value of the equity in


the property. Many borrowers will have plenty of equity in the property and


will trade down to a cheaper property in future. Maybe an inheritance will


repay the capital owed or the sale of a business in retirement or perhaps


even tax-free cash out of a pension fund will save the day.


These will be the positive cases. There will be others with debts they can


never repay. I feel that lenders offering flexible mortgages should carry


out a five-year property valuation and an appraisal of the borrower&#39s


financial situation and prospects to concentrate the borrower&#39s mind on the


need to repay that mortgage eventually.


A good mortgage adviser will draw particular attention to the client of


the hazards of the flexibility when advising over the most suitable


mortgage. Compliance issues should dictate the necessary of suitable


documentation about potential pitfalls.


I believe that these new age mortgages are marvellous for many borrowers


but for the less financially aware or wealthy, they could present a trap


and hazard for the future.


The high-profile press concern, which claims that mortgage-related


endowment poli- cies are frequently unlikely to repay a mortgage at


maturity, has raised considerable fears.


I suggest that the potential problem with uncontrolled flexible mortgages


is real, not an illusion, and of much more significance than a possible


shortfall in endowment maturity values.


To avoid future problems, flexible mortgage plans should generally be used


in conjunction with a capital-repayment schedule or an earmarked regular


savings plan, for example an Isa, or even (although it is not PC to mention


it), an endowment policy.


A downturn in the economy could lead to stagnant or falling property


prices. The scenario of limited equity in the property and no repayments


being made could cause a major negative equity problem. There is no


certainty that the present housing boom conditions will continue. Many


mortgages now in place have no prospect of repayment as the endowment


policy taken out may have been terminated or surrendered because of


financial stress caused by soaring interest rates in the early 1990s.


This appraisal should not be construed as a criticism of the new mortgage


regime. It is aimed at highlighting the potential hazards as well as the


benefits and the need to ensure they are subject to regular review.


Advisers should to ensure their suitability for the client&#39s perceived needs.


It is another way that a good independent mortgage adviser can offer added


value compared with the mortgage salesperson in a high-street lender&#39s


branch or negotiator at the end of a telephone or internet. They may do it


all in a few minutes but it can be without any advice at all.


Flexible mortgages offer one huge advantage. Used sensibly, they can


ensure that money kept in the rainy day deposit or income tax reserve


account which pays low interest and suffers probably 40 per cent income tax


can be used to better effect to reduce the mortgage and interest while cash


is available but permitting the reclaim of some of that asset in the house


when cyclical tax or other bills need to be met. They are, therefore,


tax-efficient.


High interest rates incurred by having to organise a temporary overdraft


or selling shares at a bad time when cash is needed can be a thing of the


past. The peculiar custom, almost unique to British banks, of charging an


arrangement fee for a temporary overdraft or loan could be a pain of the


past.


High-street banks may not be wildly enthusiastic about such mortgages, as


their profits from lending money at high interest rates could suffer. If


so, good. There are plenty of sources of money out there that can bypass


their expensive branch distribution network.

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