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Top up loans: An acceptable risk?

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  • 23/02/2011
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Top up loans: An acceptable risk?
Many industry professionals have highlighted the need for product innovation, especially to improve access to home ownership for first-time buyers and support a sustainable market.

One initiative put forward by property investment firms is the top-up loan. But while top-up loans provide a solution to get more first-time buyers onto the property ladder, they present lenders with a new set of credit risks.

Last year, Hitachi Capital partnered up with house builder Barratt to launch The Hitachi Capital Loan Scheme to offer parents of first-time buyers unsecured personal loans of up to £50,000 to use as a deposit.

This means a typical first-time buyer who can raise an 80% LTV mortgage will only need to have a 5% deposit to access the scheme. The remaining 15% is met by the parent’s or legal guardian’s unsecured loan, which is fixed for 12 years at 5.4%.

“Hitachi Capital has been doing business in the unsecured loans market for years and has good knowledge and expertise of lending to people who require extra finance,” said Aaron Turner, chief executive officer of unsecured loans provider Artab Capital, which designed the Scheme funded by Hitachi Capital and distributed via Barratt Homes.

To help minimise the risk of default, it has a strict policy to exclude lending to sub-prime customers and runs a full credit check on all potential borrowers using Equifax and Experian.

“Under the loan Scheme, borrowers are allowed to make overpayments any time during the agreement without a penalty, encouraging borrowers to overpay when they can so that they can still keep up with payments should they face an unexpected shortfall,” he explained.

David Whittaker, group director of Mortgages for Business, welcomed the scheme. “It’s a very clever idea because it is not the applicant who takes on the debt, but their parents, so this takes away some of the risk. The rate of 5.4% is rather good for an unsecured loan and should help the borrower pay back the loan with some ease.”

However, David Hollingworth from mortgage broker London & Country Mortgages, said that while the scheme helps first-time buyers get a foot onto the property ladder, it could potentially restrict the parent’s ability to remortgage in the future.

He said: “Parents helping their children to get a mortgage is a major trend, but they should remember that however they help their offspring, their own affordability could be affected.”

Property investment firm Assetz has also thrown its hat into the top-up loan ring. It is creating a fund that will allow homebuyers to top-up mortgages to cover up to 90% of the value of a property at a rate of 5%.

Under the scheme, borrowers get a mortgage of around 75% LTV from one of the fund’s lending partners, with the fund financing the remaining 15%.

Stuart Law, chief executive of Assetz, said: “The major risk to the lender is the borrower defaulting on their payments, so to avoid this we will be running a joint affordability test with the lender to assess the combined affordability of both loans against the borrower.”

“As a second charge lender, one of the main risks to us is that if house prices drop by 25% and the owner defaults on their payment at that time, we may not receive the full outstanding balance of the loan,” he added.

However, Jonathan Cornell, head of communications at First Action Finance, said this market needs innovation and the developer is offering a solution.

“There are some reservations with top-up loans, as those who take them out with a mortgage do so because on paper, they do not have the ability to afford them. But I think that as long as the cost of the loan is taken into account when calculating affordability then lenders should offer them to homebuyers.”

Recently, an emergency housing summit called by Housing Minister Grant Shapps took place in London to discuss the first-time buyer crisis. Areas under discussion included mortgage insurance, shared ownership and other product innovation.

Some lenders and house builders have used the debate to launch new products to help first-time buyers get onto the property ladder.

On the morning of the summit, Taylor Wimpey announced that it had teamed up with Melton Mowbray Building Society to offer an insurance-backed mortgage Scheme, while, Furness Building Society launched a mortgage offering up to 95% LTV for first-time buyers backed by their parents or family member.

Cornell added: “We are seeing a few lenders slowly growing the market with some innovative schemes that could significantly change the first-time buyer market this year.

“It will be interesting to see whether more lenders will join the bandwagon to offer top-up loans and high LTV mortgages as the year progresses.”

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