A warning has been issued regarding the types of mortgages still being offered to landlords, which risk them becoming prisoners in the future under new buy-to-let rules.
The Commercial Director at Foundation Home Loans, Simon Bayley, reports that some buy-to-let mortgage lenders are continuing to offer pay rate products on fixed rate loans or lifetime trackers, which may end up creating “the next affordability bubble”.
Landlords Could Become Mortgage Prisoners Under New Buy-to-Let Rules
He says: “Brokers must appreciate the potential consequences of recommending a pay rate buy-to-let mortgage product today to landlord clients in light of the expected changes from the Prudential Regulation Authority [PRA].”
In March, the PRA – part of the Bank of England (BoE) – proposed further action in the buy-to-let sector “to ensure underwriting standards did not slip” and to avoid lending getting out of control.
The PRA believes that without stricter lending criteria, lenders can expect a gross increase of 20% in buy-to-let borrowing over the next two to three years.
Some lenders have already begun updating their criteria, most recently the UK’s biggest building society, Nationwide.
The PRA urges lenders to take into account how much cash borrowers have to cover their interest payments in a worst-case scenario of interest rates rising to 5.5% for five years. The authority believes that this should ultimately reduce buy-to-let approvals by between 10-20% by 2019.
Now, Bayley warns that lifetime trackers or shorter term fixed rate products on a pay rate basis can still be proposed to maximise the loan amount or to fit on affordability.
“However, when landlords come to refinancing, they will have to fulfil the PRA criteria of a minimum stress rate of 5.5%, not taking into account any future interest rate increases, which could leave them as mortgage prisoners and unable to refinance away from their current lender,” he says.
“On the face of it, recommending a pay rate mortgage makes sense to landlords who want to maximise the amount they are able to borrow, because lenders can still use the pay rate in the calculation.”
Although he warns: “However, when we go forward in time and landlords wish to refinance, they will find that instead of using pay rate, they must now face a stress test at a minimum of 5.5%, which could very well make any chance of refinancing impossible.”
Over the summer, the BoE is expected to approve the PRA’s proposals, at which point, Bayley insists: “Advisers will need to ensure that they have discussed the implication of pay rate mortgages with their clients. Making sure they are fully aware of how pay rate mortgages might be attractive at outset because of the uplift they provide, but how they could leave the landlord stranded further down the line, will be vital in terms of offering the right advice.”
We will continue to provide updates on changes to buy-to-let mortgage lending criteria.