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02 Sunday Dec 2012

Interest-only mortgages – in danger of extinction Posted by:

Get one while you can – before interest-only mortgages head the same way as the Dodo. Hardly a week goes by without another lender pulling out of the market or reducing their maximum loan-to-value on interest-only to such a measly level that only the wealthiest qualify.

So quickly have they fallen out of favour that finding someone with a good word to say about interest-only mortgages is proving difficult. And yet, there are an awful lot of them around. On a radio phone-in last week on BBC Radio 5 Live, caller after caller wanted advice about interest-only. Whether it was an endowment that was not going to meet its target, a solution for the homeowner with no repayment vehicle or someone who had been advised by their broker that they’d be ‘mad not to’ take one out, there was a string of listeners who regretted the day they’d opted for interest-only.

But was it any coincidence that the other financial commentator being interviewed, the presenter and yours truly, all have interest-only mortgages? The now much-maligned method of borrowing had ‘caught’ us all out. But is it really so bad?

Part of the problem is a lack of understanding. The programme billed interest only as a ticking time bomb, with lenders encouraging people onto such deals only to pull the rug out from under them when times got tough.

But delve deeper and the reason behind the increase in repossessions among interest-only borrowers is that these people were already in difficulty. They had been moved onto interest only by lenders who didn’t have other options. These borrowers could no longer afford repayment because of changes in their circumstances – losing a job, for example – so the only other option would have been to default on their mortgage. The fact that they did go on to have their home repossessed wasn’t a direct result of having an interest-only loan but that they couldn’t afford their mortgage payments.

In this scenario, lenders are caught between a rock and a hard place. There are critics who argue that if someone is going to default on their loan and clearly can’t afford it, they should be put out of their misery sooner rather than later. Rather than propping them up, the lender should start possession proceedings rather than delay the inevitable.

But lenders don’t want to repossess homes. Quite aside from the bad PR, they lose money if they repossess properties and sell them, usually for less than they are worth. It doesn’t make good business sense.

No, the real problem with interest-only is those lenders who are following the herd and tightening criteria. You can’t blame those who have done this recently – they’ve been forced to because they have been inundated with people seeking interest-only after other lenders have pulled out.

But is interest-only really so bad if the borrower has considered how they will repay the loan and has a strategy in place? And shouldn’t lenders be trying to help interest-only borrowers rather than leaving them high and dry?