Marc Shoffman explores what the Bank of England’s plan to ditch rules limiting massive mortgages means for brokers
Mortgage brokers have navigated tougher lending requirements for clients since 2014 but reformed rules could introduce new flexibility.
The UK central bank’s Financial Policy Committee (FPC) is seeking views on removing its interest rate stress-test requirements for lenders when assessing affordability in mortgage applications.
Commentators suggest this could help buyers borrow more but there are questions about whether it could add more risks to the market and if the current economic environment could actually offset any benefits.
Here is what the changes could mean for the mortgage market and borrowers.
Affordability overhaul
The FPC introduced two recommendations to guard against a loosening in underwriting standards in the aftermath of the financial crisis and amid the introduction of the Mortgage Market Review in 2014.
These were the loan-to-income (LTI) flow limit, which mandated that a maximum of 15% of mortgages could be extended at ratios at or greater than 4.5.
The FPC also introduced an ‘affordability stress test’ that assessed how a borrower would cope if their rate in the first five years of their loan was three percentage points higher than the bank’s reversion rate.
Brokers have been united in agreement that the affordability test has been past its sell by date for years, especially with rates so low compared with the actual standard variable rates.
The FPC finally recognised this in December 2021 and said it was reviewing its rules.
It concluded in February that it would keep the LTI flow limit but is now consulting on removing the stress tests.
But removing the stress test still has its pros and cons.
Larger loans
One of the biggest barriers to buyers either getting onto or moving up the property ladder is house prices.
A shortage of stock and excess demand, as well as last year’s stamp duty holiday, have pushed property values up to record levels.
The latest Halifax House Price Index shows values rose by a record 11% annually in March, to £282,753.
Brokers suggest that removing the stress test could alleviate one barrier by helping buyers borrow more and pay higher prices.
“The availability of finance is one of the factors driving the property market,” says Mark Harris, chief executive of mortgage broker SPF Private Clients.
“With property prices continuing to rise in many parts of the country, the changes being consulted on would be welcomed by those pockets of buyers who would be able to borrow more,” he adds.
More flexibility
Ray Boulger, senior technical manager for John Charcol, suggests the changes reflect the reality of the market.
“As conditions improved in financial markets and with the Bank rate at or around 0.5% for many years, the FPC stress test increasingly restricted maximum loans to less than other responsible lending calculations,” he says.
“However, the stress test does not apply to fixed rates of at least five years; and about half of new mortgage lending since 2018 has been fixed for five years or more.
“The test also does not apply to like-for-like remortgages. Therefore, as the FPC stress test no longer applies to well over 50% of new mortgages, it has become less relevant.”
He highlights that the abolition of the FPC’s more rigid test will mean lenders can apply the Financial Conduct Authority’s (FCA) more flexible affordability rules and can tighten or loosen their own stress rate proactively as market conditions change.
“The Bank of England and the government have both highlighted the benefits of long-term fixed-rate mortgages, and clearly a higher stress rate does not need to be applied where the rate is fixed for life,” Mr Boulger adds.
Market risks
Sarah Coles, personal finance analyst for Hargreaves Lansdown, warns that removing the stress test could encourage borrowers to overstretch.
“Any weakness in the property market in the coming months could add the risk of negative equity for those who have borrowed much more,” she says.
The Bank of England (BoE) said in its consultation that a combination of the FCA’s affordability rules and its own LTI flow rule will still offer enough protection.
It has also calculated that it’s not going to open the floodgates to huge numbers of new buyers, claiming that 83% of renters can’t afford a 5% deposit anyway.
Of the remaining group, 6% can raise a deposit but can’t meet the FCA’s affordability tests.
About 1% of the remainder would not currently meet the FPC’s affordability test, the BoE said.
But Mr Boulger warns that this is rather disingenuous as it ignores potential first-time buyers who want to purchase without ever renting, and the fact that not all renters want to buy.
These proposals were published in February and the consultation closes on 6 May, with a response expected later this year.
The market has already moved on considerably since February though, with interest rates rising from 0.5% to 0.75% in March amid a cost of living crisis, energy bill hikes and Russia’s invasion of Ukraine.
This brings new challenges to the economy, pushing mortgage pricing up and influencing lending decisions.
“There are a few dampeners to proceeding, such as rising living costs, national insurance changes and dividend tax changes, which will all affect the borrowing capacity of an applicant,” SPF’s Mr Harris adds.
Marc Shoffman is a freelance journalist
