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Industry in depth
Guaranteeing the future
3 March 2007
Richard Clark looks at the problems facing first-time buyers in the market, and how the use of guarantors can ease their first steps onto the property ladder
While the size of the first-time buyer (FTB) group in the UK mortgage market has continued to decrease over recent years, the interest and debate about how to tackle the key issues faced by FTBs has increased year after year.
The third annual Scottish Widows Bank Graduate FTB survey reported that 53 per cent of graduates are still unable to get on the property ladder. Taking a look at figures from the Council of Mortgage Lenders (CML), the number of FTBs has decreased from 531,600 in 2002 to 409,000 last year. In fact over the 10-year period from 1996, we have seen this group in the market decrease from 55 per cent of the number of annual house purchases to 36 per cent last year.
First solutions
The first solutions on the market were 100 per cent mortgages launched by lenders doing their best to make sure the FTB group kept the housing market buoyant. Last year, the government launched the Homebuy scheme and there was more indication of lenders and the government working together to come up with shared equity and key worker type schemes, along with more product innovation from lenders in the form of increased income multipliers.
Along with the efforts of these two key stakeholders in the market, the role of parents in helping their children to get onto the property ladder has become more prominent.
Before taking a closer look at the various efforts being made, it’s worth highlighting what the key issues facing the FTB group are:
A combination of factors has led to inflated house prices and problems with affordability.
House prices in the UK have seen strong growth levels over the past few years due to low interest rates, and an increased demand for housing supply has been driven by the increase in the buy-to-let market. A key problem is that salary increases haven’t moved in line with house price growth. Between 1996 and 2006, income for FTB households increased from £17,308 to £33,994, an increase of 96 per cent. Over the same period, average house prices for this group increased from £41,906 in 1996 to £120,932 – an increase of 189 per cent.
With the average FTB property now priced at £120,932, and earnings growth lagging behind house price growth, it is little surprise that would-be home owners are struggling to save the required deposit of between 5 per cent and 10 per cent of this amount. This inability to save is further exacerbated when you take into account the fact that student debt has reached levels of around £13,000.
Scottish Widows Bank’s survey echoes the sentiment reporting that 60 per cent of graduates believe they don’t earn enough to get them on the housing ladder.
The wide-scale problem with affordability becomes apparent when looking at the CML’s figures in January this year which revealed that income multipliers – borrowing as a proportion of salaries – have reached record levels. The average FTB income multiple now stands at 3.29 times household earnings and has continued on an upward trend – a year earlier the ratio stood at 3.08, while in early 2002 it was 2.55.
Resourceful
FTBs have consequently become more resourceful in the race for their first property. An increasing number have boosted their borrowing power by buying with friends and partners. In the same survey, Scottish Widows Bank found that two-thirds of graduates who had been successful in getting on the property ladder had bought with their partner and, of that group, if they were to split up, 68 per cent would not be able to buy their other half out. This highlights the position of ‘not affording to go it alone’ that many are in.
There has also been more people borrowing or receiving gifts from friends and family to help with deposits, and other costs such as Stamp Duty and furniture.
As affordability problems persist, there has been an increase in the number of first-timers looking for help from lenders, family and government.
In recent years, more lenders have started offering high loan-to-value (LTV) type products with some even offering up to 130 per cent of the property value. Often these products are targeted specifically at people who have degrees or in select professions, as increased borrowing is based on the higher earning capacity of these groups compared to non-graduates.
According to figures from the Mortgage Advice Bureau, at the end of 2005 12 per cent of people taking out mortgages in the UK borrowed 100 per cent LTV or more, compared to just 8 per cent in 2004. Going into 2006, in the first nine months of the year the number of mortgages above 100 per cent LTV rose by 70 per cent, proving the popularity of this type of product.
The advantage that these products bring to FTBs is the ability to buy a home without a deposit and, with additional borrowing available on top of the property prices, the ability to make home improvements, furnish the property and pay legal fees and Stamp Duty.
Even with 100 per cent borrowing, if an applicant’s salary doesn’t give them the amount they need, there is still the issue of having a shortfall. There are two options which lenders employ in these circumstances:
The first of these is enhanced salary multiples. This has become more prevalent in the market over the last year, mirroring the CML’s findings on income multiples reaching record levels. Most lenders who offer enhanced salary multiples apply qualifying criteria meaning that they are not widely available. There is normally a minimum salary level required or availability is restricted to certain professions, such as lawyers or doctors under a professional scheme.
Another attractive feature and differentiator from standard mortgages is the ability to use parental, or a close family members’ income to boost borrowing power. The role of a guarantor allows applicants to borrow more than would normally be possible by being backed up by a guarantee. This would either be for the full amount of the loan or only for the amount above the normal income multiplier.
Find out more about this weeks industry news
The key here for lenders is that the guarantor can demonstrate that, when necessary, they have sufficient resources to assist on a monthly basis. No security over the guarantor’s property is required to support the guarantee and when the applicant earns sufficient funds to support the lending in their own right, the guarantor is simply released from the guarantee and any future obligation. This is often a good way of using the ‘bank of mum and dad’ to buy without necessarily tapping into their savings for a deposit.
Changing dynamics
There is no doubt that the dynamics of the UK housing market has changed over the last few years, with FTBs and buy-to-let landlords often competing for the same properties, and the former often being priced out of competition. There are other reasons why this group has reduced – mainly a change in lifestyles making renting a more popular option.
As FTBs look for new ways of tackling the issues outlined above, there has been a move away from the traditional routes of buying a first home. We have touched on some of the tactics being employed by lenders and the government, but if the FTB problem persists there’s no doubt that parents will also play a pivotal role.
Richard Clark is head of product development and marketing, Scottish Widows Bank
A helping hand - Hollingworth
There’s no secret behind the emergence of guarantors as part of the buying process for first time buyers in recent years. Having leapt up, house prices have continued to increase at a steady rate, particularly for a first time buyer trying to pull a deposit together. As prices have continued to run away from first time buyers, the problem has became a simple case of not being able to borrow enough on a mortgage to make up the difference between the deposit and purchase price.
This not only leaves the borrower facing a brick wall in their path toward homeownership but it also causes a lender issues in that they have to think about how to help navigate the problem. Clearly there is demand that lenders are keen to satisfy but that cannot be at the expense of responsible lending. It isn’t viable to dramatically increase income multiples and so lenders turned to alternative ways that first time buyers might be able to realistically boost their borrowing power without compromising the overall sense and security of the lending.
Family help is often seen through the provision of a larger deposit as a gift. However, parental income can also be used to boost the borrowing power of the child and lenders have moved to a more flexible approach to guarantor lending. Whilst the use of guarantors never fully went away it was not always as useful as it could be as the parent would have to show that their income would be able to cover not only the new mortgage but also their own existing mortgage based on the lender’s standard multiples.
Now some products will treat the parent’s existing mortgage as a monthly commitment. Others have applied a ‘top slice’ approach where the parent need only be able to show that they can afford the excess borrowing, over and above that which the child could borrow on their own income. Lenders such as Skipton BS, Leeds BS and Scottish Widows Bank have successfully employed this more user-friendly approach.
Guarantors need to fully understand the ramifications and must be aware that if their child stops paying the mortgage they will be liable for the full monthly payment. It could also impact on their future borrowing ability and the mantle of guarantor is not one that can simply be given up on request. They must be granted release by the lender when it is satisfied that the child now earns enough to afford the entire mortgage. That’s why some lenders will still shy away from a situation where there is little hope of the child ever taking on the mortgage in their own right.
Products aimed at first time buyers has shown a good deal of innovation e.g. Bank of Ireland’s 1st Start and Norwich & Peterborough’s Lend a Hand schemes. There is certainly no doubt that the use of guarantors and parental income has handed a lifeline to many first time buyers that faced a long, difficult route to the purchase of their first home otherwise.