How The Bank of England Relaxes Mortgage Lending Rules?
Just recently, the Bank of England revealed plans to relax mortgage affordability rules, smoothening the homebuying prospect for first-time property buyers.
The Bank of England decided to smoothen the property buying process for new buyers by adjusting the lending rules.
What Are The Core Findings?
The Bank of England has revealed plans to ease the lending rules for first-time property buyers (FTBs) from August 1.
Current borrowers must prove mortgage affordability on their lender's higher variable rate if interest rates go up by a further 3%.
After consulting lenders and other property professionals, FPC decided to scrap this 3% rule in summer 2022.
As a result, it is great news for new property buyers who were very likely to fall under the rule.
And the change comes at a time when increased interest rates, rapidly growing property prices, and the living costs crisis are already pressuring new buyers trying to step onto the property ladder.
What Are The Reasons Behind The Changes?
Back in 2014, lenders saw new affordability guidelines issued to secure the banking system from increased debt levels following the financial crisis in 2008.
The FPC asked lenders to carefully check borrowers' affordability to repay mortgages when their fixed deals ended and in case of interest spikes.
As a result, lenders made sure that borrowers could repay their mortgages when switched to the reversions rate, known as the standard variable rate (SVR), and interest rates spiked by 3%.
The FPC also called on lenders to limit their mortgages offered to clients who borrow 4.5 times their income levels to 15% of their total lending volume.
Why FCA Tweaks The Lending Rules Now?
When the rule was implemented, the interest rate was expected to reach 2.25% in the coming 5 years. And when they discussed lifting the rule, the chances of rates hitting that levels were low. So, FCA decided that the test was not needed any more.
But as the inflation spiked to 9%, a 40-year record high level, the Bank of England had to adjust the rates to counter the inflation. As a result, we saw 5 back-to-back spikes of the base rates to 1.25% in recent months.
Current levels are well down the anticipated 2.25%, but property professionals expect the rates to reach 3% and more in 2023.
And current SVRs are already just under 5%. If the base rate goes up by a further 1.5%, the rule would require borrowers to prove the affordability of a mortgage with a 9.5% rate.
For instance, borrowing £180k via a 2-year fixed mortgage with a 2.5% interest rate means average monthly repayment reaching £815. But if the rule still applied, such borrowers would have to prove their affordability with an interest rate of 9.5% and monthly mortgage repayment of reaching £1,590 – almost 2 times the amount they would have to actually pay.
As a result, such strict affordability criteria would leave most FTBs and existing homebuyers away from getting on the property ladder. So far, FCA has not commented on the issue, but many agree that this is one of the core reasons behind the swift changes to the lending rules.
FCA said it is enough to secure responsible lending by limiting the share of customers who can borrow more than 4.5 of their income and several other affordability checks.
Who Will Benefit The Most?
Undoubtedly, FTBs are the main beneficiaries of the eased lending rules. They have smaller salaries and deposits, meaning more challenging test settings.
The changes are also good news for those homeowners who borrowed high proportions of their annual income and need to remortgage soon.
According to Capital Economics, a stress test with a 6.6% interest rate means a typical homebuyer could borrow 5 times their income. If the test rate hits 9.5%, the maximum amount to borrow will drop to 4 times annual income.
And currently, 25% of homebuyers borrow more than 4 times their earnings. If the rules remain the same, many will face extra challenges getting on the property ladder.
