CISI – Financial Products, Markets & Services

Topic – Other Retail Financial Products

(10.2) Mortgages

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 UK Housing Market
Home ownership in the UK:

Approximately 27.8 million residential properties in

the UK

Owner Occupied: 17.9 million

Privately rented: 5.0 million
Housing Association: 2.9 million
Local Authority: 2.0 million

Owner occupied properties:

i. Only 5.37 million are owned outright

(30%)
Seeing an
increase in private rental
ii. Approx. 12.5 million are part-owned,
part-mortgaged (70%)
properties
iii. Only just over 45% of UK residential
properties are mortgaged
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UK Housing Market
In 2013, the average price of a property in
the UK stood at £242,000.

Between 1980 and 2013, on average, UK

house prices fell – the majority of which
House prices are rising occurred during the recession of the early
1990s.

The biggest drop, however, was 7.6% in

2009.

Rising house prices could partially explain the

decline in the number of first time buyers
taking out a mortgage.

1980 - 2002, first time buyer mortgages were

Declining number of first averaging around 486,000 per year.

time buyers 2002 - 2003 31% decline in first-time buyer

mortgages

2007-2008 further 47% decrease as the

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effects of the economic downturn impacted
on the housing market.
UK Housing Market
Fewer numbers of first time buyers has
impacted upon on the age of homeowners.

In 1991, 67% of those aged 25-34 were

Decreasing numbers of homeowners. By 2011/12, this had declined to
43%.
younger homeowners
There were also reductions in home
ownership for those aged 16-24 age group
(from 36% to 10%) and for those 35-44 (from
78% to 64%).

By contrast, home ownership has increased

among older age groups.

Another likely contributing factor to the

decline in numbers of first time buyers is the
Increasing deposits paid rise in the value of deposits paid to secure a
by first time buyers mortgage.

For first time buyers, the average deposit as

a percentage of purchase price increased
by almost 10% between 1988 and 2013,
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standing at 22% of the price of the house.
UK Housing Market

The overall level of house building in

the UK has declined since 1980, with
Fewer new homes are 140,880 houses built in financial year
2013/14 – a fall of more than 44% from
being built the 251,820 built in 1979/80.

Problems facing the UK housing market:

 A constantly growing demand for affordable houses with limited growth in

the supply of new homes

 House prices on the rise

 Rental costs have also increased as landlords take advantage

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Government initiatives
Help to Buy Schemes – backed by UK Government

The UK Government have tried to help people get onto the

property ladder by offering various schemes to assist with getting a
mortgage:

Name of How it works

scheme
Shared  Part-rent, Part-buy
Ownership  Buy a share of your home (between 25% and 75% of
the value
 Pay rent on the remaining share.
 Buy bigger shares at a later stage
 Lease hold
Equity loan  Government lends up to 20% of the cost of a new-
build home
 Buyer needs a 5% cash deposit and a 75% mortgage
 Buyer not charged fees on the 20% loan for the first
five years
Right to Buy  A policy that goes back to the 1980s and 1990s
 Council tenants and some Housing Association
tenants with at least 5-years tenancy can purchase
their home at a large discount cisi.org
What is a mortgage?

 A mortgage is a secured loan. (The security is the property being

purchased)

 Most people use mortgages to buy their house or flat.

 They tend to be taken out over a long-term (most run for 20 or 25 years).

 You can also take out ‘buy-to-let mortgages to purchase rental properties

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Applying for a mortgage
Mortgage lenders (building societies and retail banks) will consider each
application for a loan in terms of the credit risk. (The risk of not being paid
the principal sum loaned and the interest due).

The factors assessed when lending a mortgage are given below:

Factor Assessed What do they look at?
Income How much do they earn? Are their earnings proportionate
to the amount they want to borrow? Often, lenders will
lend a maximum of 4.5 x a person’s salary
Security of employment How long have they been working for their employer? How
likely is that they could lose their job?

Outgoings In the last 5-years, lenders have scrutinised how borrowers

spend their money in more detail.

How much do they spend on bills and household expenses?

Does the borrower have enough left to afford mortgage
repayments?
Loan-to-value ratio This is the size of the loan in relation to the value of the
property being purchased.

The higher the loan-to-vale ratio, the more risky it is

deemed by lenders. cisi.org
Loan-to-value ratio
This is the size of the loan in relation to the value of the property being purchased.

The higher the loan-to-value ratio, the more risky it is deemed by lenders. If the risk is
deemed to be higher, the borrower will probably have to pay higher rates of
interest.

It is normally calculated as a percentage:

Amount to borrow
X 100
Value of the property
e.g. A person wants to buy a flat for £150,000 but needs
to borrow £125,000:

£125,000
X 100 = 83% LTV
£150,000
Before the financial crisis of 2008, some lenders were offering 100% mortgages with
borrowers not required to contribute a deposit.

Borrowers with larger deposits tend to be offered lower rates of interest cisi.org
Non-payment of a mortgage

If the borrower fails to make the agreed repayments

and/or the interest payments on the mortgage, the
borrower is described as ‘in default’.

The lender can then re-possess the property, sell the

property (often at auction) and then reimburse itself with
the proceeds.

Any money left over after repayment of the outstanding

loan is returned to the former property owner.

A second mortgage is sometimes taken out on a single

property.

If the borrower defaults on his borrowings, the first

mortgage ranks ahead of the second one in terms of
being repaid out of the proceeds of the property sale.

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 Interest rates on mortgages
There are four main methods by which interest can be
charged on mortgages.

1. Variable Rate Mortgage

The lender charges the
homebuyer the bank or
building societies’ standard
variable rate of interest

The borrower will

The lender’s standard variable
benefit from the base
rate then increases and
rate of interest
decreases with fluctuations in
remaining low, but will
the base rate of interest set by
suffer additional costs if
the Bank of England
the base rate
increases.
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 Interest rates on mortgages
2. Fixed Rate Mortgage
Fixed rate borrowers are often
required to remain with the
lender and pay the lender’s
standard variable rate for a
couple of years after the
The lender charges the
fixed rate deal ends –referred homebuyer fixed rate of
to as a ‘lock in’ period. interest for an initial period of
time e.g. 3.5% for 2-5 years

If interest rates fall, and perhaps stay low,

The borrower will be
the fixed rate loan can only be
protected if interest
cancelled if a redemption penalty
rates increase but if
is paid.
interest rates fall, they
will lose out.
The penalty is calculated to recoup the
loss suffered by the lender as a result of
the cancellation of the fixed rate loan cisi.org
 Interest rates on mortgages
3. Capped Mortgage

The lender charges the

homebuyer the bank or
building societies’ standard
variable rate of interest

The standard variable rate will be

The borrower will pay ‘capped’ at a certain percentage.
more for their mortgage
if rates rise above the The standard variable rate cannot
standard variable rate up move above the capped limit.
to the capped rate.
They are protected if
interest rate rise above
the capped rate
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 Interest rates on mortgages
4. Tracker Mortgages

The lender charges the

homebuyer a rate linked to
another rate

The rate is linked to the ‘base’ or

The borrower will benefit ‘bank’ rate set by the Bank of
when Base Rate is low England (Monetary Policy
but will pay more for their Committee) e.g. 1% above base
mortgage if base rate
goes up

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Interest rates on mortgages

Discounted Rates

Mortgages are no different from loans, credit

cards, savings and current accounts in that
lenders are competing for your custom.

Lending institutions often attract borrowers by

offering discounted rate mortgages. A 6% loan
might be discounted to 5% for the first three
years.

Such deals might attract ‘switchers’ – borrowers

who shop around and remortgage at a better
rate; they may also be useful for first-time buyers
as they make the transition to home ownership
easier for those with a relatively low but growing
level of income.

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Types of mortgages
Repayment Mortgage
The most straightforward type of mortgage

The borrower makes monthly

payments to the lender, with each
monthly payment comprising both
interest and capital

 As long as the borrower  The cost of servicing the

meets the repayments each loan could increase with
month, he is guaranteed to changes of the interest rate
pay off the loan over the term
of the mortgage.  The borrower runs the risk of
having the property
repossessed if he fails to meet
the repayments
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Types of mortgages
Repayment Mortgage

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 Types of mortgages
Interest-only Mortgages
Lenders have to ensure that
borrowers have robust
investment plans in place to
repay their mortgage

The borrower makes interest

payments to the lender throughout
the period of the loan. The borrower
also puts money aside each month,
into some form of investment to pay
off the capital

 Investment may grow  Interest rates may increase

through regular contributions and their property is at risk if
and investment so that the they fail to keep up the
capital borrowed can be paid payments to the lender.
off at the end of the mortgage
term  Additional risk that the
investment might not grow
 They may have additional cash
sufficiently to pay the amount
after the mortgage is repaid in
owing on the mortgage. cisi.org
full
 Types of mortgages
Offset Mortgages

Example: You have a mortgage of a £100,000 and have a savings account with
£8,000 and £2,000 in a current account. For the purpose of calculating interest,
the £100,000 is offset by the £10,000 worth of savings, so in effect you only pay
interest on £90,000 of your mortgage borrowing but will not receive any interest
on your savings.

For the calculation and charging of

interest, any mortgage is offset
against, for example, any savings
you may hold.

 A higher-rate tax payer will not  No interest received on savings

incur tax on any savings interest
earned because it has been offset
against the mortgage borrowing.
 As interest is being paid on a slightly
lower mortgage, it provides some
flexibility to manage finances, pay off
the mortgage a little quicker and have cisi.org
more control.