Mortgage Affordabilty Tests
The Financial Policy Committee is withdrawing its recommendation that borrowers be tested on whether they could cope with a three per cent interest rate rise.
The Bank of England will abandon its ‘stress test’ recommendations for approving new mortgages from August 1, it announced today.
Currently, affordability test recommendations specify a stress interest rate for mortgage lenders to use when assessing borrowers’ abiity to repay a mortgage.
Since 2014, mortgage lenders have been required to assess whether a homebuyer could continue to repay their mortgage in the event of a three per cent rise in interest rates.
Interest rates rose by another 0.25 per cent this month — the fifth successive rise — taking base interest rates to 1.25 per cent.
In anticipation of further base rate increases, mortgage rates have been rising steadily in recent months. This means that affordabilty tests have included assessing whether a potential borrower could afford to make mortgage repayments at interest rates of around six to seven per cent (the lender’s standard variable rate, plus the three per cent ‘stress test’).
Amid fears of a looming recession, the cost of living crisis and rising interest rates have caused critics to question whether simplifying affordabiity assessments, and in some cases allowing homebuyers to borrow more, is wise.
Greater spending power may lead to house hunters making higher offers and inflating house prices.
However, today’s announcement will come as welcome news to borrowers such as first-time buyers, with many able to pay high rents but unable to pass a lender’s ‘stress test’ of three per cent interest on top of the standard variable rate.
Another recommendation introduced by the Bank of England’s Financial Policy Committee (FPC) in 2014 concerns the loan-to-income (LTI) ‘flow limit’ which limits the number of mortgages that can be offered to borrowers at LTI ratios at or greater than 4.5. This recommendation will not be withdrawn.
The FPC regularly reviews its recommendations. “The LTI flow limit without the affordability test, but alongside the wider assessment of affordability required by the FCA’s Mortgage Conduct of Business (MCOB) responsible lending rules, ought to deliver the appropriate level of resilience to the UK financial system, but in a simpler, more predictable and more proportionate way,” said the FPC on June 20.
The FPC also noted: “The withdrawal of its affordability test Recommendation does not place any new requirement on lenders to take action, as existing affordability assessment practices are already subject to the FCA’s MCOB framework and will remain so.”
“A fairly high proportion of recent buyers have worked around the “standard variable rate plus 3%” stress test by locking into five-year fixed rates, meaning it will only preserve or open up additional borrowing capacity for part of the market,” said Laurence Bowles, director of research at Savills.
“Lenders will still stress test applicants to reflect where they expect interest rates to be five years from the start of the loan, following the Mortgage Conduct of Business rules.
“It should allow lenders to be slightly more flexible which will come as welcome relief to some would-be-buyers struggling to keep up with current criteria because of significant price growth of the past two years — but saving for a deposit will remain the most significant barrier to home ownership,” added Mr Bowles.
“Scrapping of the affordability test is not as reckless as it may sound,” said Mark Harris of mortgage broker SPF Private Clients.
“It could have a positive affect on certain borrowers who have been disadvantaged when it comes to getting on the property ladder.
“For example, first-time buyers who have been affording rents far in excess of actual mortgage payments but have failed affordability assessments regardless,” added Mr Harris.
In the short term, mortgage applicants could be able to borrow more. However predicting where base interest rates will be in five years’ time could prove too risky and lenders may choose to not make any changes to their affordability tests.
In the long term, if changes are implemented, homeowners with greater spending power could be searching for the same properties as before, against the same competition, but at higher prices.
The average asking price of a home in London is £682,000, a very slight drop on last month, according to new figures from Rightmove.
Blog Post from Evening Standard
