Can You Pay Your Mortgage and Still Lose Your Home?
In these times of rising costs and concerns over how we can afford life’s essentials, we often look at ways to save money to allow a little more breathing space. Even our largest and most committed outlays have had to be reviewed and, in some cases, totally transformed. Mortgages, for example, the one payment that perhaps means more than any other, have risen, fallen, paused, and risen again, causing much uncertainty among homeowners.
Interest-only mortgages have been seen as a relief for some. Offering people the chance to shrink their monthly payments has been a welcome change. The interest-only payments, clearing the interest your mortgage would accrue rather than clearing the mortgage itself, make for smaller outgoings. For some, it’s a no-brainer. Compare what you pay each month on an interest-free mortgage to what you pay on a capital repayment mortgage, and the money-saving benefits are there for all to see.
However, whilst in the short term these lower monthly payments make life a little easier, long-term, there is potential for debt, eviction, and potentially homelessness. This may sound a little drastic but recent coverage across several media outlets has shown that people opting for the interest-free mortgage have found home ownership much more complicated and expensive than first thought. Why is this?
At the end of the term, you owe the original amount you borrowed; you’ve only been paying off the interest and NOT reducing the principal balance. So, if you had a mortgage of £250,000 and opted for the interest-only option. Each monthly payment chips away at the interest the £250,000 loan would accrue. Once you have completed the interest payments, there is still £250,000 to pay.
This leads to huge monthly payments after the interest-only period ends. With interest cleared, you now have a balance to pay, and potentially not as long left to pay it.
In 2023 the Financial Conduct Authority revealed that there were 750,000 interest-only mortgages, and 245,000 part-interest-only mortgages. 12% of homeowners have these deals.
Why are people opting for interest-only mortgages?
Before the 2008 financial crisis, applying for credit and getting accepted was much easier. The lure of offers spread over the long term with cheaper rates or incentive-based finance saw many people snap up what lenders were willing to offer. Then, when the crisis took hold and instability shook the financial world, rates, offers, and ease of acceptance suddenly changed. Today, people who were successful applicants for interest-only mortgages back then are approaching the end of their deals. With costs being significantly higher today than they were then, the worry is setting in that they won’t be able to afford their home anymore.
The lower payments of interest-only mortgages attract people, and that makes sense. Why pay more? The problem is that you always end up paying more in the long run. Where you may now only make a payment of £500 per month where you were previously paying £800 per month, it soon catches up with you. A lump sum is required to clear the balance, and any loan secured on paying that back will have significantly higher monthly repayments than your interest-only mortgage.
Take a look at our guide to discover more about how interest-only mortgages work.
Should homeowners put a repayment plan in place?
Without a plan in place for repaying the total mortgage value, it becomes easy for homeowners to fall into debt or even lose their homes. Surprisingly, 1 in 5 people with interest-only mortgages didn’t realise they had to repay the mortgage when the term ended. 18% of those holding such a mortgage had no idea how they were paying it back.
Perhaps even more concerning is that the FCA says almost 50% of those with interest-only mortgages will not be able to pay back the loan. This puts borrowers in a perilous position with limited options available. Speaking to a lender before the term ends so a payment plan can be formulated is worth considering.
Despite the negatives and the obvious worry, the number of interest-only mortgages has halved since 2015, resulting in fewer people finding home affordability a critical concern.
FCA director of retail banking David Geale said: ‘While it is encouraging to see the number of interest-only mortgages reducing faster than expected, with the majority of loans being paid off or transferred to other products, the challenge remains for a significant number of borrowers.
‘Taking an interest-only mortgage can mean lower monthly payments, but borrowers need a plan to repay the outstanding balance when the mortgage comes to an end.
‘If you have an interest-only mortgage and are unsure if your current plan is sufficient, speak to your lender as soon as possible to discuss your options.’
It is generally thought that younger homeowners may be in a better position with an interest-only mortgage as the option to extend the mortgage or switch to another lender becomes available. For older homeowners, it becomes more challenging. Legal and General suggest that some ways to clear or reduce the amount owed is to take some money out of a pension or look at the possibility of equity release.
If you’re struggling with interest-only mortgage repayments our guide can help.
How to plan for the future with an interest-only mortgage?
An interest-only mortgage should not be rushed into. It can prove to be extremely costly in the long term and needs careful management to ensure the outstanding balance can be paid when the interest-only period ends. We have compiled a few steps that we believe are essential to help you navigate your way through the pitfalls an interest-only mortgage can bring.
Understand your mortgage terms
Familiarise yourself with the terms of your interest-only mortgage, including the interest rate, the length of the interest-only period, and the total loan amount. This way you can start putting a plan in place for when the interest-only period ends. It’s essential you have a clear knowledge of when that date is, and when the full amount is due. Having clarity over how your spending habits may need to change in the future, as well as understanding what finance you may need to seek, can only be done if you know when payments are on the verge of changing from affordable to extreme.
Evaluate your financial situation
Assess your current income, expenses, and other financial obligations. You may find that in your current situation, you have more disposable income than first thought. This could allow you to put money aside for the mortgage balance when the interest-free period ends.
Switch to a repayment mortgage
Consider switching from an interest-only mortgage to a repayment mortgage. This will allow you to start paying off the capital and the interest, reducing the outstanding balance over time. You can opt for switching the entire interest-only mortgage to a standard repayment mortgage or just a portion of it.
Investment strategy
If you have an investment plan in place to repay the mortgage, monitor its performance regularly to ensure it aligns with your repayment goals. Markets are often volatile, and the amount you have invested could significantly rise in value but also decrease. If it rises you may be able to pay back a large portion of the loan early. Just remember, there are often early repayment charges if you pay more than a certain amount back in a lump sum.
Increase monthly payments
If possible, increase your monthly payments towards the mortgage to reduce the outstanding balance more quickly.
Even small additional payments can make a significant difference over time. Just remember, you will only be able to increase your payments by a certain percentage before a lender may penalise you. Fixed-rate mortgages for example, often have a maximum overpayment limit of 10% of the total outstanding balance per year. If you have managed to save more than this, consider putting the remaining funds into a savings account or investing it. It then may grow to help pay off a further 10% the following year without you having to top it up much yourself.
Consider refinancing
Explore refinancing options to secure a better interest rate or extend the repayment period, which can lower your monthly payments. This should be done with a lot of thought though. Fees and costs from refinancing something as substantial as a mortgage can be high. If this was to put you in a worse situation, it may not be the best option to consider.
Monitor your progress
Regularly review your mortgage statements to track the reduction in the outstanding balance.
Adjust your repayment strategy as needed, based on changes in your financial situation or investment performance.
Seek professional advice
Consult with a financial advisor or mortgage specialist to discuss your repayment options and create a personalised repayment plan.
They can provide expert guidance tailored to your individual circumstances and help you make informed decisions.
Prepare for the end of the interest-only Period
As the end of the interest-only period approaches, ensure that you have a clear plan in place to repay the outstanding balance.
If necessary, consider selling assets or using other sources of funds to cover the repayment amount.
Stay financially disciplined
Maintain discipline with your budget and spending habits to ensure that you can meet your mortgage repayment obligations.
Avoid taking on additional debt or making significant financial commitments that could impact your ability to repay the mortgage.
By following these steps and staying proactive in managing your mortgage repayment, you can effectively plan for and repay the outstanding balance of your interest-only mortgage. It’s essential to start planning early and seek professional advice when needed to ensure a smooth repayment process.
Can homeowners switch from an interest-only mortgage to a new product?
The simple answer is yes. You can switch from an interest-only mortgage to a repayment mortgage where you pay off both the interest and the amount you have borrowed. Monthly payments will be higher than if you were just paying the interest off, but it will mean when you have paid it back, you owe your home outright. With an interest-only mortgage, you’ll still have the total loan to pay back upon the end of the interest-only period.
There are some requirements though. You will be required to pass affordability checks by your lender to be accepted for a switch, and you may have fees to pay for the process.
You will not be able to apply for a switch if:
- The property is currently being let.
- There is a guarantor on the mortgage.
- You want to change to an interest-only mortgage from a repayment mortgage.
- If you or any of the mortgage applicants have been declared bankrupt and not been discharged.
- Your mortgage was regulated by the Consumer Credit Act when it was taken out
Each lender may have further stipulations, so it would be beneficial to seek expert advice in advance or enquire with the lender about what their switching criteria may be.
Losing your home and interest-only mortgages
Interest-only mortgages sound great on paper. Seeing that you can pay less each month for your home sounds like a dream come true. The unwavering truth perhaps only sinks in when the realisation that the full balance of the mortgage is still due at the end of the loan becomes apparent. As we saw in the quote earlier, the number of people unaware of what they would have to pay back is quite staggering. Perhaps lenders should be doing more. Could their terms be listed clearly? Perhaps more focus on the fact that only the interest is being paid back and not the capital is needed?
It is this lack of clarity from lenders and as a result lack of understanding from borrowers, that sees people forced into a position where they can lose their homes. With no repayment plan in place for the mortgage itself, or no way of acquiring the funds to clear it, repossession becomes a very real possibility. If repossession can be avoided, the concerns aren’t necessarily over. With money benchmarked for retirement or other general life expenditures being used to settle the lump sum payment, later life suddenly becomes much harder, and the retirement or inheritance plans may need to be drastically altered or scrapped altogether. A report recently in The Telegraph showed that one homeowner who had been paying his interest-only mortgage for more than 30 years was suddenly hit with the very real possibility of losing his home due to the unaffordable nature of the product.
Lenders typically let borrowers know one year before the end of the mortgage with reminders at six months and right near the end, that the mortgage is ending. However, it may sound polite to remind borrowers that they have successfully paid back the interest on their loan, but it also acts as a warning that “Thanks for your money, but now we need more” is the true meaning behind it. And, realistically, who has managed to save £250,000 in one year? If you don’t have a repayment plan in place, that letter suddenly sounds much more ominous than if you have already earmarked funds to settle the amount.
It is a tricky path to navigate, but help is at hand. Lenders have an obligation to offer support but sometimes, that support comes at a cost. A cost that plunges you further into debt long-term. An alternative is to look for a quicker much faster solution. At Gaffsy we are experienced in helping stop house repossession. Our cash house buyer model allows homeowners to sell a house fast, with no complications or fees to worry about. So quick is the process that we can have funds in your account in as little as seven days. Contact our understanding and experienced team today to find out more about how we can help you escape the clutches of a costly interest-only mortgage.
