News analysis: FPC publishes consultation on affordability testing

In late February, the Bank of England’s (BoE) Financial Policy Committee (FPC) released its promised consultation on plans to scrap the mortgage affordability test, one of two recommendations first introduced. in 2014.

These recommendations include the loan-income stream limit (LTI), which limits the number of mortgages that can be loaned at an LTI ratio greater than 4.5 times income, and the affordability test, which sets the rate of stress interest.

In a review late last year, the FPC decided the affordability test was no longer necessary. He said only the LTI flow limit recommendation, in conjunction with the Financial Conduct Authority’s mortgage business conduct framework, was sufficient to provide “an appropriate level of resilience to the UK financial system, but in a more simpler, more predictable and more proportionate. ”.

Mark Harris, managing director of SPF Private Clients, explains: “The economic environment has changed considerably since the entry into force of these policies.

“Although they were written with the best intentions in the world, they had unintended consequences, with some borrowers being shut out of the housing market or restricted in one way or another.

“For example, some tenants are paying rent well above their usual mortgage payments because lenders’ affordability tests suggest they can’t afford the mortgage payments.”

And finally, as Sarah Coles, senior personal finance analyst at Hargreaves Lansdown sums it up: “The BoE plans to drop a rule designed to limit massive mortgages.

She continues: “Letting people borrow more money seems like a risky move at a time when property prices are skyrocketing and the outlook is uncertain. But the bank is convinced that the additional test is no longer fair.

And Quilter’s mortgage expert, Karen Noye, expresses what many people may be thinking: “The consultation has come at an interesting time as we continue to face a huge level of uncertainty.

“Just as we hoped to cross the other side of the pandemic, the situation in Ukraine is a stark reminder of the unpredictable world we live in.”

The affordability test is based on the prospect of the borrower’s interest rate increasing by three percentage points above the reversion rate. And, as Coles explains, reversion rates remain “remarkably stable” despite falling mortgage rates in recent years. Therefore, “in order to qualify for a cheap mortgage, buyers must prove they can afford a really expensive mortgage.”

Coles describes this as something that has felt “more and more drastic” over the years.

But Noye says, “Typically, only a small number of people are affected by the accessibility test recommendation.”

She explains that the LTI is the primary driver of affordability, “along with other criteria imposed on homebuyers by individual lenders.”

London Money mortgage consultant James Adkin agrees.

“We look at each client on a case-by-case basis and we don’t yet have a scenario where a client can’t get the loan they need – unless their requirements are unrealistic from the start,” he says.

However, Noye points out: “The housing market has seen enormous and continuous growth over the last two years and it is worth considering how house prices will react if the recommendation is withdrawn.”

She continues: “[This] could spark interest from homebuyers hoping to borrow more, which could lead to a new influx of buyers into the market.

“If that were the case, property prices would likely rise and could thwart any support a withdrawal might have offered to first-time buyers or others in similar financial situations.

“The movement would effectively give with one hand and take back with the other.

“If the withdrawal were to cause house prices to rise further, the deposit needed to secure a mortgage would also increase.”

Meanwhile, Coles says: “It could mean more people are able to borrow more money, which could leave them vulnerable to overstretching themselves to afford sky-high prices.”

She continues: “Any weakness in the housing market in the coming months could add the risk of negative equity.”

And Adkin cautions: “Ultimately, borrowers often want to borrow as much as they can, to secure properties that are being increasingly priced by unregulated parties.

“The risk, of course, is that larger loans may not be repaid by the borrower and that we go back to 2007 once again.”

However, Noye and Coles echo the BoE’s belief that ultimately removing the affordability criterion will not open the floodgates to a large number of buyers and therefore things will only become not uncontrollable.

Cole cites FCA figures: “Currently 83% of tenants cannot afford a 5% deposit. Of the remaining group, 6% can raise a deposit but cannot meet FCA affordability tests and an assumed LTI cap of 5.5 times salary.

“Meanwhile, about 1% pass all these tests but could not pass the FPC accessibility test, which is a significant number but not enough to overwhelm the market.”

And a positive consequence of withdrawing or changing the rules could be, according to Legal & General Mortgage Club director Kevin Roberts, the encouragement of product innovation, “which would benefit borrowers, brokers and lenders”.

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