New Rules On Mortgages To Stop Risky Lending

Home buyers could face tougher borrowing conditions when applying for a mortgage under new plans to reform the lending market.

The Financial Services Authority wants to avoid another loans crash, by forcing lenders to introduce stress tests and income checks to avoid buyers defaulting.

It follows a report commissioned after the last recession in 2009 that found perhaps contrary to popular belief, mortgage lending has been roughly consistent since the middle of 2009 but lending by foreign banks, specialist lenders, and in particular Irish banks, has fallen away.

It also found the number of mortgage holders unable to pay is far less now than it was during the mid 1990s. This is largely down to the low Bank of England interest rate.

During the last decade the majority of mortgages were granted not to first time buyers but people wishing to move home and others wanting to re-mortgage their properties.

Buy to let mortgages made up the smallest sector of lending.

Between 2007 and early 2009, many companies were selling mortgages at a loss, partly because of fierce competition but also because they were able to subsidise those losses through sales of payment protection insurance, much of which was useless.

The FSA has taken advantage of a low point in the economy to put in place these proposals ahead of the next boom - whenever that may come.

A number of proposals, which were considered but rejected by the FSA, include a restriction on the amount a person or couple can borrow when compared to earnings, a total ban on interest only mortgages and tight limits on granting mortgages for people heading into retirement.

Instead the FSA has proposed the following three rules:

:: An affordability assessment must be carried out which includes verifying an individual or couple's income. This was not always the case during the last boom.

:: Unavoidable bills such as utilities, council tax and spending on children must be taken into account.

:: All mortgage lenders must consider potential rises in interest rates and assess whether a borrower would be able to repay in such an eventuality.

Commenting on the report, the chairman of the FSA, Lord Turner , said: "We believe that these are common sense proposals which serve the interests of both lenders and borrowers.

"While the excesses of the pre-crisis period have largely disappeared from the current market, it is important to ensure that better practice endures in future when memories of the crisis recede and the dangers of poor practice return.

"The three key proposals are, we believe, the most effective way to tackle the problem of risky lending. But it is essential that we understand what their impact would be - how many consumers would be protected from the distress of arrears and repossessions, and, how many consumers who could have afforded a mortgage might have to take out a smaller mortgage or to delay their purchase."

There is now a three-month consultation period with mortgage lenders, and the FSA says it is in "listening mode".

The Council of Mortgages Lenders has welcomed the report.

Lending needs to be responsible and done in a way which protects consumers," said the organisation's director general, Paul Smee.

"Rules need to be practical and avoid unintended consequences. Whilst there is much detail to be pored over, the FSA's new proposals seem to strike broadly the right balance.

"If lenders are to make their contribution to improving the supply of housing and to the wider agenda for economic growth, then they need a regulatory framework which also supports that objective.

"We look forward to working with the regulator to iron out any remaining wrinkles and to move towards a smooth process for implementation. Ideally, this would take account of the European legislative proposals too, so that as far as possible the costs of regulatory duplication are avoided."

However, Grenville Turner, chief executive of Countrywide mortgage broker, estimates the new proposals could restrict the ability of some people to secure a mortgage.

"Where the proposals fall short, by the FSA's own admissions, is that 1 in 40 of new customers that would currently be eligible for a mortgage could potentially struggle to get a mortgage if the proposals were introduced in this market.

"In an environment where lenders are already being extremely cautious with their lending criteria; by placing all affordability assessments at the doors of lenders risk teams this could create an even stricter lending environment."

The report concluded that "bad lending" has largely disappeared but only because of the current economic environment.

It is expected that the rules will be implemented in 2013.