The Bank of England has borne out on its threat to crack down on buy-to-let lending but lenders and landlords are already eyeing ways to get around the new rules.
The Prudential Regulation Authority first consulted on tougher buy-to-let underwriting requirements in March for all lenders not already subject to FCA regulation.
The consultation proposed lenders should assume a minimum borrower interest rate of 5.5 per cent for the first five years of the loan.
The paper also suggested lenders should consider future interest rate rises for at least the first five years of any buy-to-let mortgage.
The exception would be unless the interest rate is fixed for more than five years, or if the overall mortgage contract is less than five years.
Last week the regulator published its response to the consultation, as well as its final rules.
The PRA confirmed the 5.5 per cent interest rate figure would apply, and that there will be no link between the figure and the Bank of England base rate.
The regulator also confirmed rent rises could be included in affordability checks.
The PRA wants lenders to begin bringing in the new interest cover ratio changes by 1 January, and to begin implementing the remaining changes by 30 September 2017.
The regulator says some firms asked for longer timeframes for these changes, and any that cannot meet the new deadlines should speak to their supervisor.
The PRA has clarified that holiday lets, bridging loans, property investment lending and corporate lending are all exempt from the new underwriting standards.
But it says it will monitor these sectors “to ensure prudent underwriting standards are maintained”.
The regulator has also confirmed a “portfolio landlord” will be any landlord with four or more properties.
Keystone Buy to Let Mortgages managing director David Whittaker said: “The new underwriting standards from the PRA are in line with what we have been anticipating.
“We have been predicting a move to tougher stress tests by the end of the 2016 for some time, and it is positive to finally have a firm date by which they must be implemented.
“We were resigned to it. Anyone who thought they could do a King Canute and roll back the waves was mistaken.”
The buy-to-let market is currently dominated by two- and three-year fixed rate loans.
But experts say the PRA rules could lead to buy-to-let lenders pushing five-year fixes, as the new regulations do not apply to fixed-rate deals of five years or more.
Fleet Mortgages chief executive Bob Young says: “The PRA accept some lenders may use this as an opportunity to game the principles of the underwriting standards.
“Over the last few weeks we’ve seen a proliferation of five-year fixes. Partly that’s because the yield curve is as flat as I’ve ever seen it, so five-year money is cheap to buy. However, it is undoubtedly the case some lenders are definitely setting their stall out to do longer term fixes to get around this issue.”
Young adds five-year fixes can be the best option for customers, but the PRA will take a dim view of lenders promoting these longer-term fixes for their own ends.
He says: “We will see a spike and the PRA will look to close that.”
One 77 Mortgages managing director Alastair McKee says: “I do get a lot of landlords that would like to put it to bed for five years. But even if five-year fixed rates do come back, a lot of landlords will still opt for two or three-year deals, just because they want to see how these taxation changes that come in in 2017 will affect their business.”
A move towards five-year fixes could also lead to a backlash from consumers, Whittaker warns. He says five-year fixes taken out now will not end until 2021, when the landlord tax relief restrictions are fully phased in. If this income restriction leads to the landlord wanting to sell the property then there could be a conflict between landlord and lender.
He says: “Landlords may have ignored all the lender’s warnings today, but when they want to get out they will say it’s unfair. As we canter towards the five-year horizon, we have to be careful. It’s an easy solution to get the stress test to work, but for someone who is buying in their own name they’ve got to fully understand that they get a large tax bill in 2021, inside the five years. If they think they have to offload and then find they have an early repayment charge they will not remember the reasons they took that five-year fixed rate.”
Others say the PRA’s changes will nudge the market away from mainstream lending towards more specialist channels.
Paragon Mortgages managing director John Heron says: “We would expect these measures to restrict the level of growth in the buy-to-let market going forward, by cutting out more marginal business. We also expect a larger proportion of the market to be specialist in nature, consisting of more professional portfolio landlord business.”