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Base rate held, can the interest only time-bomb be defused?

May 8th, 2013

The Bank of England has again held the base rate at 0.5%, maintaining the record-low for the 50th consecutive month. Quantitative easing, the process of creating new money for the economy, has also been left alone by the central Bank, as they watch and wait with cautious optimism rather than taking action with further stimulus.

It appears that the Bank would prefer to watch the impact of Funding for Lending Scheme (FLS) and Help to Buy initiatives on the Housing Market before acting.

On this last point, Halifax have reported that house prices increased by 1.1% in April, and by 2% year-on-year; giving positive reinforcement to the Bank's current strategy, and also providing a bit of reassurance for contractors who currently own property.

The new regulator of financial services in the UK, the Financial Conduct Authority (FCA), announced their presence with their first major warning to the public with a stark message, which will no doubt be a worry for many contractors who have existing interest-only mortgages.

The FCA have been leaning on the banks to contact all borrowers with interest-only mortgages, to warn them in plenty of time that their debt is due to be repaid, and they need to have an appropriate strategy in place. The objective is to avoid mortgage defaults for borrowers when the debt is called in by the bank at the end of the mortgage term.

Many contractors have taken interest only mortgages in the past, with the view to ensuring the minimum payments were manageable in the short term. Most contractors had the firm intention of making lump sum overpayments via contract earnings, and possibly switching across to a repayment mortgage in the future. In many cases neither of these have happened, making the warning of the FCA a valid one. Figures show that there are 600,000 homeowners in the UK whose interest-only loans are due to be repaid prior to 2020. Many of these will have no appropriate repayment vehicle in place and will face a forced sale of the property if no action is taken.

The options for the contractor are not as poor as they could be. The record-low rates mean that switching to a repayment mortgage may not be as expensive an option on a monthly basis as it was when the mortgage was originally taken out. Those with sufficient equity in their properties could actually reduce the rate they are currently paying significantly via a remortgage or rate switch with the same lender, and thereby soak up a lot of the increased payment by converting to repayment.

For example, an interest-only mortgage of £200,000 on the Abbey / Santander variable rate would cost circa £790 per month, and the same loan on a 20 year repayment mortgage would cost approximately £1,308 per month. A significant difference to most contractors.

A remortgage on a like-for-like basis to Halifax on a rate of 2.14% is currently available to contractors, subject to qualification criteria. On a 20 year term the new monthly payment on the lower rate would be circa £1,033 per month, resulting in an increased payment of approx £243 per month, and ensuring the debt is repaid after 20 years.

Click here to see how much you could save by remortgaging

The warning from the FCA is a valid one, as re-arranging one's finances resulting in less disposable income is not always a high priority for most contractors. However, the prospect of a forced sale in the future is an even less palatable one for most. Timely action now whilst contract earnings are secure could avoid upheaval later in life as retirement approaches for many freelancers.

Article by: Taj Kang, Operations Director at Contractor Mortgages Made Easy

Media Contact: Raman Kaur, Public Relations Manager

Tel: 01489 555 080

Email: media@contractormortgagesuk.com

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