Homebuyers can expect tougher affordability tests from lenders when applying for mortgages as Bank of England acts over easy borrowing.
The Bank of England’s Financial Policy Committee (FPC) has taken action to tighten the rules on how mortgage lenders apply affordability tests applying to first time buyers, home movers and switching remortgage buyers.
In the Financial Stability Report it warned of a 10.3% growth in consumer borrowing for the year to April with about £200 billion owed on credit cards, car finance and personal loans.
Over the next six months banks must strengthen their reserves by £5.7 billion and by a further £5.7 billion by the end of 2018.
With mortgage loans at £1.4 trillion the lenders stress test is used to determine homebuyer affordability and these are to be tightened.
Tighter mortgage stress tests
It means Banks and building societies must ensure borrowers can pay back their loan at current interest rates and also if the lender’s standard variable rate (SVR) was 3% higher.
Current rules allow for a three percentage point rise in the base rate and have been interpreted by lenders as being 3% above the introductory mortgage offer.
When this offer ends affordability stress testing would be to about 5% but the tighter rules will increase this to between 7% and 8% depending on the lenders SVR.
The Bank of England will maintain current measures that were introduced in 2014 where lenders restrict high-risk lending to 15% of total loans to homebuyers.
These measures do not affect buy-to-let landlords as lenders require these mortgages to demonstrate rental income exceeds 125% of the mortgage interest repayments or 145% for higher earners.
For the older equity release buyer the rules do not apply where lifetime mortgages are arranged with interest roll-up as lenders affordability tests are not required.
Financial risks to the economy
Homebuyers have been encouraged to borrow as mortgages and credit card rates are at record low levels but could struggle when interest rates rise in the future.
For remortgage buyers currently on their lenders standard variable rate, switching to a new mortgage deal would help them to reduce the cost of monthly repayments.
Mortgages represents the largest amount of debt which is rising at about 2.8% a year but has a low level of write-offs.
Consumer credit on the other hand has a much higher level of write-offs with the fastest growing component being car finance rising at 15% a year, credit card up 9% and personal loans rising 7%.
The Bank of England data values the car finance loans at £58 billion, credit cards loans at £52 billion and personal loans at £72 billion.
With lower interest rates home movers have the opportunity to make overpayments, reducing the loan to the lender and total cost of the mortgage.
The governor of the Bank of England, Mark Carney said the FPC is committed to ensure that the system continues to have sufficient resilience to withstand potential shocks.
What are your next steps?
Call our LCM mortgage brokers for advice if you are a first time buyer, want to remortgage your existing home for the best mortgage deal, moving home or are a buy-to-let investor.
For equity release buyers our London City Mortgage advisers can recommend lifetime mortgages allowing you to receive cash from your property for home improvements, holidays or even gift to a family member.
Learn more by using the property value tracker chart, mortgage monthly costs calculator and equity release calculator. Start with a free mortgage quote or call us and we can take your details.
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