Please spare a few moments to ponder over the future not of mortgage regulation or what is the next move with interest rates but the very basic ingredients that we should advise our clients on. How much to borrow and over how long.
Why does everybody take a 25-year mortgage? Of course, with flexible mortgage schemes available, many people will overpay and clear the mortgage earlier, obviously saving a great deal in interest to the lender.
Many first-time buyers I see every week place this “option” high on their wish list but when they see the monthly cost along with a decent mortgage protection plan, building and contents, etc, the desire of over-paying quickly fades. Perhaps a solution to how much one can borrow and over how long should depend on how old the client is in the first place.
Let's assume a mortgage needs to be repaid by retirement, say, 65. Client one is a 55-year-old divorced man earning £25,000 per year. He could, without getting complicated with loans, etc, borrow 3.5 to four times his salary – £87,500 to £100,000 – let's say £95,000. However, he only has 10 years left to repay it. On a repayment basis at an average rate of 5 per cent, that is £1,007 per month. Approx 64 per cent of take-home pay. Of course, if he has a pension that will support the mortgage after retirement, it is possible to take the term past 65 but is it best advice? After the options have been explained, it is possibly down to the client to decide. After all, the client is always right?
Client two is an ambitious, hard-working 20-year-old first-time buyer earning £16,000. He could possibly borrow between £56,000 and £64,000, let's say £60,000. That does not buy much now but hang on, he has got possibly 45 years left to pay it. Shock, horror, think of the interest to the lender. If, like client one, he used 64 per cent of his take-home pay on an interest-only basis, he could potentially borrow at the same 5 per cent rate, wait for it, £163,000. Over 10 times salary. Cool.
Let's get back to the real world. Ten times salary is a bit much for a young lad who may still be living at home. But the facts are that he can afford a lot more than client one because in the future he will have pay rises, job promotion, etc, and has a lot of time on his side to repay the mortgage.
A mortgage scheme that can change with life and sensible underwriting that looks to the future, not just at the client's current circumstances, is possibly what is needed. Of course, I am not hinting that 10 times salary is affordable but it does make 3.5 look a bit silly. Interest-only with no repayment method should not be advised against. If you want the property to go to your dependants, then take a whole-of-life policy.
After all, the property you buy today with a huge mortgage could be cleared with a credit card in 25, 30 or 45 years time.
Ocean Financial Services,