FCA Review States Borrowers with an Interest Only Mortgage Must Act NowSeptember 25th, 2013
May 2013 was when the FCA review finally published its summary of findings into interest only mortgages showing the majority of borrowers who took an interest only mortgage in the past, will struggle meeting their final repayment demands. In fact the average mortgage debt on an interest only basis is estimated to be £72,000 for repayment required by 2020. This means there are many worried mortgagors in the public domain that will never be able to repay their interest only mortgage at the end of their repayment period. But why has this grossly incompetent situation ever arisen and how can these people find solutions to remedy this?
What is an interest only mortgage?
In the 80’s and 90’s the interest only mortgage was commonplace and exceeded sales of capital & interest mortgages. Offering a potentially cheaper & more flexible mortgage option, the interest only mortgage requires a payment of only interest back to their lender. Additionally, a suitable form of repayment vehicle should have commenced to run alongside the mortgage, eventually repaying the original capital borrowed. The mortgage term was selected from the outset & usually was 25 years, which provided sufficient time to repay before retirement. Their popularity was down to a form of regular investment plan named a low cost endowment which aimed to repay the mortgage at the end of the term. However, there was no guaranteed that the monthly payments to the endowment company would be sufficient to meet the target amount.
Relying heavily on investment performance, these endowment schemes were basically a regular savings plan that provided both life assurance (sometimes critical illness cover too) and a tax free lump sum on maturity. Unfortunately, post 1990’s the investment returns fell sharply and hence endowment projections were reduced accordingly, leaving shortfalls on maturity for mortgagors. The FCA interest only review advised to take certain steps to check any repayment vehicle is on track and, if not, help to establish alternative options that maybe available enabling repayment of the entire loan when the interest only mortgage period ends.
Capital repayment and interest only mortgages
The only form of guaranteed mortgage repayment plan is the capital & interest mortgage. Nowadays the most popular mortgage that homeowners have is a repayment mortgage, where monthly mortgage payments will go toward paying off the interest and repayment of the capital borrowed. As long as the payments made meet the lenders instructions then the mortgage will reduce yearly, with the eventual repayment of the whole mortgage follow in accordance with the term set on the mortgage.
With an interest only mortgage 100% of your monthly mortgage payments go towards paying off the interest. This means the balance remains level throughout the term of the mortgage and will therefore need a lump sum at the end to redeem the plan.
Make sure there is repayment in place
The Financial Conduct Authority ascertained that borrowers which specifically include people, who previously took an interest only mortgage, must to act now to ensure they will be able to repay the loan amount.
If you do currently have an interest only mortgage, unsure about its eventual repayment then you should check the date when repayment is due and how much is required to settle at the end of the term. If you have time on your side then seek the use of interest only mortgage calculators which help calculate the actual monthly amount required to guarantee the final repayment. This will undoubtedly increase monthly payments; hence dependent upon this outcome will determine your future options.
If you are concerned there won’t be enough to repay the interest only mortgage, then you must speak to a qualified mortgage adviser who can act as a liaison between the lender and yourself.
Types of interest only mortgage repayment vehicles
It’s important that before embarking on any mortgage your attitude to risk is ascertained. For the cautious the capital & interest mortgage is appropriate. However, for those that likes to take some risk, and the potential of tax free cash over & above their target amount then the interest only route would be suitable.
Again, with the interest only repayment route options some investments are deemed more risky than others. However, the following all have one common goal which is aiming to meet the amount required to repay the capital outstanding at the end of the mortgage term.
The following are interest only mortgage repayment vehicles: –
1. Regular savings stocks and shares ISA
2. Pension Plans – including personal, stakeholder, SIPPs, occupational pensions
3. Investment Bonds
5. Unit trusts
6. Endowment policies
7. A 2nd home or buy-to-let property that will be sold
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