New UK mortgage rules will make it easier for buyers to borrow more
The regulation of mortgage lending is key in determining the level to which buyers can stretch themselves to get on the housing ladder.
According to property group Savills, the government has made two key regulatory changes that should allow buyers to access more debt and should increase the demand for housing:
- In March, the FCA released guidance advising that banks were taking an overly cautious approach to stress testing, and since then, most major lenders have loosened their criteria.
- More recently, in the July Financial Stability Report, the Bank of England recommended a relaxation in the loan-to-income (LTI) flow limit, to allow individual lenders to have more than 15% of their new mortgages at an LTI of more than 4.5, although the sector average should remain below 15%. This is likely to increase house price growth and transaction numbers over the next five years, Savills said.
Why the changes are important
Stress testing involves making sure borrowers can continue paying their mortgage if their circumstances worsen.
The FCA rules state that when stress testing, lenders must have regard for the likely future interest rate that the borrower will be paying.
This has previously been taken to mean the very high reversionary rate that most mortgages default to after their fixed term.
“But where a borrower is likely to move onto another fixed rate (which the majority do), the FCA has suggested that it is that future fixed rate against which it is appropriate to test, particularly in an environment where the risk of a significant increase in interest rates is relatively low,” Savills said.
A less onerous stress test means that some borrowers can’t take on higher levels of debt relative to their incomes, the group explained.
2Lenders have reduced their stress tests by an average of 110 basis points since the guidance, according to the Bank of England, and lenders’ estimates suggest this allows for between £14,000 and £40,000 of additional borrowing for the average buyer.2
Lending is still constrained by the FCA’s LTI flow limit, which currently states that no more than 15% of a lender’s new loans can be at an LTI of over 4.5.
“In reality, most lenders give themselves a buffer against this measure, meaning the sector average is just less than 10%, according to the Bank of England.
“But the Bank has recommended that this rule change to allow individual lenders to increase their share of high-LTI loans to more than 15%, as long as the sector as a whole remains below that level,” Savills said.
What it means for buyers
These changes will together allow for an increase in the amount of debt buyers can take on relative to their incomes, meaning they require a smaller deposit to buy.
This should help both first-time buyers and upsizers, potentially increasing transaction levels. But some of this additional borrowing potential might also go towards house price growth, particularly if there isn’t a high volume of stock on the market, Savills said.
“There are very few recent situations where we can look at how a change in borrowing capacity impacted the market. One comparison is the beginning of the Help to Buy scheme, where buyers were able to borrow more to buy new homes.
“In the seven years after the scheme was introduced, new homes increased in value more quickly than second-hand homes (39% growth vs 29% according to the Land Registry). And transaction levels for new homes grew consistently, whilst sales of second-hand homes did not.”
But the incomes of buyers also increased more quickly in the new build market, according to Experian data.
“This suggests that an increase in borrowing capacity would likely have some inflationary impact on house prices over a few years at least, and would also generate additional transactions,” Savills said.
