A warning is being issued that the types of mortgages still being extended to buy to let investors risks them becoming ‘prisoners’ in the future, unable to refinance.
Simon Bayley, commercial director at Foundation Home Loans, says some buy to let lenders are continuing to offer ‘pay rate’ products on fixed or lifetime trackers - which may end up inadvertently creating what he calls “the next affordability bubble.”
He says: "Brokers must appreciate the potential consequences of recommending a pay rate BTL mortgage product today to landlord clients in light of the expected changes from the Prudential Regulation Authority.”
In March the PRA, part of the Bank of England, announced that action was required “to ensure underwriting standards did not slip” and BTL lending go out of control. The PRA claims that without further constraints, lenders expect a gross increase of 20 per cent in buy to let borrowing over the next two to three years.
It therefore says lenders should from later this year take into account how much cash borrowers have to cover their interest payments in a worst case scenario of interest rates rising to 5.5 per cent for a full five years. The authority says this should ultimately reduce buy to let approvals by between 10 and 20 per cent by 2019.
Now Bayley is warning that lifetime trackers or shorter term fixed products on a pay rate basis can still be proposed to maximise the loan amount or to fit on affordability.
“However, when landlords come to refinancing they will have to fulfil the PRA criteria of a minimum stress rate of 5.5 per cent not taking into account any future interest rate increases, which could leave them as ‘mortgage prisoners’ and unable to refinance away from their current lender.
"On the face of it, recommending a pay rate mortgage makes sense to landlords who want to maximise the amount they are able to borrow because lenders can still use the pay rate in the calculation.
“However, when we go forward in time and landlords wish to refinance, they will find that instead of using pay rate, they must now face a stress test at a minimum of 5.5 per cent, which could very well make any chance of refinancing impossible.”
Over the summer the Bank is expected to approve the PRA proposals, at which point Bayley says “advisers will need to ensure that they have discussed the implications of pay rate mortgages with their clients. Making sure they are fully aware of how pay rate mortgages might be attractive at outset because of the uplift they provide, but how they could leave the landlord stranded further down the line, will be vital in terms of offering the right advice.”