"Once interest-only loans were demonised, now they can be part of the solution to the cost-of-living crisis and rising mortgage rates."
Debt is becoming an increasing burden for many people as they grapple with the high cost of living and rising mortgage rates.
With mounting debts, especially for people in their 50s or beyond and depending on circumstances, debt consolidation could be an option and one of the routes to this is via an interest-only mortgage.
In response to borrowers struggling financially, the government, in consultation with regulators and the industry, has introduced a Mortgage Charter so lenders can provide borrowers with some breathing space.
One of the solutions within the charter is to move a repayment mortgage to interest-only and it’s time for our industry to revisit this as a debt consolidation tool.
A new world
Once interest-only loans were demonised, now they can be part of the solution to the cost-of-living crisis and rising mortgage rates.
That’s because interest-only mortgages are unrecognisable from the past and lenders take care to understand individual circumstances before granting them. Today they’re straightforward, regulated and thriving.
Give borrowers the tools to make smart choices
Debt consolidation combines multiple debts into a single, more manageable loan, instead of dealing with numerous creditors. The aim for borrowers is to secure lower monthly repayments, reduce interest rates, and/or simplify their finances. Moving all or part of a mortgage to interest-only can keep their mortgage affordable and also keep them in their home.
Modern interest-only products are typically flexible, meaning the borrower could later switch all or part to repayment or make it work that way via overpayments. The typical lender allowance for overpayments is 10% each year before any early repayment charges (ERCs) come into play, so the borrower can make it behave like a standard repayment mortgage if they choose to.
Advantages of debt consolidation and interest-only
1. Immediately lower monthly payments: Borrowers only pay the interest on the loan amount, which can be significantly lower than a traditional C&I mortgage payment.
2. Improved cash flow: Borrowers can free up additional funds each month, which can then be used to tackle high interest debts, credit card balances or other outstanding loans.
3. Organise your life: Managing multiple debts can be a logistical nightmare, leading to missed payments, late fees and credit score damage. By consolidating into a single loan, you reduce the chances of financial mismanagement.
4. Potential interest savings: When opting for debt consolidation, borrowers may secure a lower interest rate compared to the rates on their existing debts. Additionally, during the interest-only mortgage phase, borrowers have the opportunity to allocate extra funds towards paying down the principal, effectively reducing overall interest expenses.
5. Increased home affordability: For prospective homebuyers, an interest-only mortgage could increase their purchasing power, potentially allowing them to buy a more expensive property while keeping initial monthly payments lower.
Make sure it’s right for your client
Alongside the positives, it’s important to think about both sides of the coin and review all potential implications for your client. These include:
1. Potentially more interest: Mortgages tend to have longer terms than personal credit so you could be borrowing the money over a longer period, adding to the interest costs.
2. Potential charges: Personal finance might have early repayment charges (ERCs) attached.
3. Your home is at risk: Failure to repay the debt may result in the loss of the property.
4. Taking on new debt: Personal debt would become joint if the mortgage is in two names.
Lenders have a responsibility in how they approach these cases. At LiveMore, we would need to understand how the debt occurred in the first place and ideally be able to isolate it to a ‘one-off’ event, such as a previous health issue, to make sure the borrower is not living beyond their means.
We would also be keen to know if your client had tried to agree better terms with their existing providers; or if the debt is significant, sought out professional debt counselling and considered other solutions before deciding that debt consolidation was the best route for them.
Case study
Recently, we were able to help a couple overcome a tough situation. Mr and Mrs K were coming to the end of their mortgage term and were looking to refinance. They had built up a lot of credit over the last five years and were worried about their affordability given the increased cost of servicing their credit cards and mortgage payments.
Both borrowers had good income and pension arrangements and wanted to stay in their home long-term. We were able to help them refinance their mortgage to interest-only, clear all their credit card debt and reduce their monthly outgoings by £920 per calendar month.
But that wasn’t all. Their existing mortgage was with from an inactive mortgage lender, and they were dealing with the added stress of being classified as a “mortgage prisoner”. This solution not only reduced their monthly outgoings, it also secured their future in the home they love.
Responsible financial management
When used wisely and appropriately, debt consolidation and an interest-only mortgage can be a smart financial strategy for those seeking to simplify their debts, reduce expenses and regain control.
As a broker, you need to encourage careful planning, budgeting, and a clear understanding of the risks. Borrowers can then assess whether debt consolidation with an interest-only mortgage aligns with their goals.
In today’s tough economic climate, your clients need to know all the options that work for their circumstances. It’s time for solutions like this to come to the fore. With a well-thought-out plan and responsible financial management, the combined approach can pave the way for a brighter financial future.
