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Pushing the limits

Lenders are being accused of stretching affordability too far but do low interest rates mean that borrowing at high income multiples is a less dangerous scenario than in the past? By Annie Shaw

The FSA has started to mutter darkly about issues concerning affordability, high income multiples and mortgage advice.

Managing director, retail markets, Clive Briault says: “It is too early to confirm numbers but it is becoming clear that affordability is not being adequately discussed and assessed in an unacceptable number of firms. In a worrying number of cases, affordability is not being discussed with customers at all.”

The regulator’s concerns come as economists continue to warn of the possibility of a plunge in house prices. Morgan Stanley chief UK economist David Miles says a housing market bust is likely within the next few years because price growth has been grounded in unrealistic expectations. He says the scene is set for “significant falls” if these expectations are not met and confidence collapses.

But lenders are unabashed by talk of price falls and continue to bring in innovative schemes.

Among those pushing the lending limits is Abbey, whose offer to lend five-times income recently made headlines. Several other lenders offer similar deals to the right clients.

HBOS recently introduced a 125 per cent loan-to-value product under the BM Solutions brand, which competes with Northern Rock’s Together loan which has been available since 1999.

Using affordability to judge the appropriate size of a mortgage advance is nothing new. Standard Life Bank pioneered using a homeowner’s income and financial commitments instead of income multiples as long ago as 1999 and says very few borrowers have got into financial difficulty.

Chief executive Anne Gunther says: “We would like to see all providers adopting this method of lending as best practice and their primary consideration in the decision.”

Lenders have been quick to fend off accusations from debt charities that high LTVs and high income multiples constitute reckless lending.

An Abbey spokesman says: “Back in the 1980s, interest rates were 15 per cent and lenders were offering three times income. Interest rates are now a third of that level and we are offering five times salary – a more affordable scenario than back in the 1980s.”

John Charcol senior technical director Ray Boulger says: “In many ways, someone with a 25 per cent LTV mortgage that they cannot afford is in a worse position than someone with a 100 per cent-plus mortgage who can comfortably afford it.”

Five lenders offer products with LTVs in excess of 100 per cent, ranging from 102 per cent to 125 per cent. Research from the Mortgage Advice Bureau shows that the number of people borrowing at least 100 per cent of the property value accounted for 11 per cent of mortgage business during the first nine months of this year.

Defenders of the idea of raising finance above the property value say it makes sense for people with stable jobs, prospects of a rising salary and no plans to move in the short term. Lenders also say they are picky about who they lend to.

For example, Abbey says applicants must have joint income in excess of £60,000 and a deposit of at least 25 per cent to qualify for the five times income multiple.

BM’s Mortgage Plus deal is available only to those with a clean credit history and a deposit of at least 5 per cent. Ninety-five per cent of the loan is a mortgage, topped up with an unsecured loan of up to 25 per cent of the property value to a maximum of £30,000.

The advantage of this type of deal for the borrower is that the unsecured portion of the loan is charged at the same rate of 5.89 per cent as the main mortgage.

Home of Choice chief executive Richard Coulson says this way of borrowing can be advantageous. He says: “The brokers I deal with tell me that lenders’ carefully thought through and comprehensive affordability calculations and tests are spiked by the additional significant debt that borrowers incur within a month of completion by spending on carpets, furniture and decorating.”

Packaging the total spend in a single loan is therefore likely to work out cheaper than other forms of borrowing such as credit cards or an overdraft for those who need to buy household items or pay for renovations.

The main worry about mortgages over 100 per cent LTV is that the borrower is immediately thrust into negative equity.

Moneyfacts mortgage analyst Julia Harris says: “These offers are only made possible by the continued growth in property prices but how long will it be before the housing market runs out of steam?

“In this situation, where negative equity is agreed from the outset, a slip in housing prices could soon place people in a very difficult situation. Anyone opting for one of these deals should think very carefully about the contract they are committing to.”

Harris also fears that people could be overpaying. “With only a handful of lenders in this niche market and the risks being much higher, the interest rates available are far from competitive. On average, you could expect to pay around 6 per cent, a 1.25 per cent premium over base rate,” she says.

Mortgage broker Cobalt Capital partner Andrew Montlake says as interest rates are lower and less volatile than in the 1990s, lenders are less worried by the prospect of borrowers being overstretched by sudden interest rate rises and are happy to lend more than they would have done 10 to 15 years ago.

He says: “Low interest rates also mean mortgages are cheaper to repay, meaning there is less chance of borrowers defaulting, even on bigger loans.

“The availability of longer fixed-rate periods from five to sometimes 25 years is another reason why lenders are currently offering bigger multiples, as there can be no ugly surprises for borrowers.”

But research consultancy Cambridge Econometrics property expert Saxon Brettell says the fact that people are borrowing so much will start to cause major problems if the economy goes awry.

He says: “There is a lot of fear in the minds of first-time buyers who see property apparently rising out of their grasp. But if things do turn sour suddenly, what will go first is the housing market.”

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