What new UK mortgage affordability test rules could mean for you
The Bank of England has changed mortgage affordability test rules in a bid to simplify the mortgage application process.
The move has raised eyebrows as it comes at a time of rising interest rates and a major cost of living crisis.
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Hide AdHouse prices are also continuing to outpace inflation and wage growth, with the average property now over £55,000 more expensive than it was before the Covid pandemic.
So what exactly does the Bank of England’s announcement mean - and how could it affect you?
Here’s everything you need to know.
What is a mortgage affordability test?
When you apply for a mortgage, lenders have to check that your finances are able to take the strain of repaying the loan.
This process was bolstered in the wake of the 2007-2008 global financial crisis, as the crash was partly caused by US banks making risky loans to people who struggled to pay them back.
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Hide AdAccording to the Bank of England, high levels of indebtedness can “amplify” a recession because households struggling to repay debt tend to sharply cut back on their spending in economic downturns.
In 2014, the UK introduced two mortgage mechanisms to reduce the risk of this kind of eventuality.
These were:
A stress interest rate for lenders when assessing prospective borrowers’ ability to repay a mortgage (i.e. a check to see whether they could cope with higher interest rates)
A loan-to-income (LTI) limit, which caps the number of mortgages that can be given to borrowers at LTI ratios at or greater than 4.5
What has changed with mortgage affordability tests?
The Bank of England has announced that the ‘stress test’ mechanism will be scrapped, leaving only the LTI limit as a way to ensure lenders can repay what they owe.
The change is set to come into effect from 1 August 2022.
Explaining its decision, the independent public body explained that ditching the test would retain an “appropriate level of resilience to the UK financial system” while also making mortgage rules “simpler, more predictable and more proportionate”.
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Hide AdThe Bank’s Financial Policy Committee (FPC) has judged that the LTI limit is likely to have a larger role than the stress test in preventing a rise in overall household indebtedness and the number of highly indebted households in a scenario of rapidly rising house prices.