Interest only mortgages were extremely popular in the 1970’s and 1980’s, when they were normally linked with an endowment policy. Sadly, many of these endowment policies under-performed and left many borrowers with a shortfall when it came to paying off the back the capital. In spite of their promises of there being sufficient funds to repay your mortgage at the end of 20 years or so, the results left many people disillusioned and therefore they switched to repayment mortgages, which have been the normal method of financing home-buying since then.
Times are changing, and currently these mortgages are experiencing an upsurge in popularity. In the first three months of 2002, 9% of new mortgages were interest only. By the last three months of 2005 this figure had increased to 23%. First time buyers are also attracted to this type of mortgage and by the end of 2005 the numbers of first time buyers choosing it were up to 15%, from just 6% at the beginning of 2002.
As the name implies, just the interest on loans is paid, leaving the capital debt intact. All payments made over the term of the mortgage are credited to interest and repayment of the capital amount is made at the end of the mortgage term. Because of this, monthly payments are much lower than with a repayment mortgage. This is fine and makes buying your home much more affordable without the need to sacrifice your lifestyle. The problems may come when the time comes to pay the original loan.
The FSA (Financial Services Authority) are concerned about the possibility of borrowers taking out an interest only mortgage without making provision to pay off the capital and mortgage lenders are now asking for proof that you have arranged a savings fund to cover the final capital payment. Pension plans and ISA’s are the usual ways to do this, but after the disaster of the endowment policy saga, who can guarantee that there won’t still be a shortfall? A danger is that the borrower may go ahead with full intentions of keeping up the payments on these plans, only to find that due to changing circumstances, they are unable to fulfil this, and they may end up having to cancel the plan. There is nothing to stop borrowers from cancelling as soon as the mortgage has been agreed.
Should the borrower decide not to cover the capital with some sort of savings, it may be that the only option at the end of the mortgage term would be to sell their home and downsize. Both the lenders and the FSA are not comfortable with this. Who knows what the property prices are likely to be 20 or so years on and it could be quite a gamble!
Mortgage lenders point out that there are other options. If you take out a more comfortable repayment mortgage and increase to term from the usual 25 years to maybe up to 35, you would lessen your mortgage expenditure. The saving on an average loan of £125,000 would be just over £100 per month.
Nowadays, many people move homes after eight or so years, so not many mortgages run their full course. Should this occur, then it would be a good time to see what’s available and re-assess the mortgage situation.
It’s possible to get a mortgage that offers the option to pay half the loan as a repayment mortgage and the balance on an interest only with repayment at the end. Adjustments can always be made if you find you’re able to pay a little more each month.
Don’t gamble with your home. Think carefully before you make any decisions about a mortgage. There are a lot of options out there and lots of pitfalls too. Fortunately it’s very easy to get professional advice. An esperienced mortgage broker will know all the answers and has access to the very best mortgage deals, allowing for your own personal circumstances.
That’s the best advice we can offer.
Kings College Brokers offer mortgages and remortgages to uk residents
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