Such products have their place in the market but buy-to-let landlords need to be aware that these erode equity and therefore reduce future options. They also create the risk of a greater payment shock at the point at which the fixed rate switches to the reversion rate – it is naive to think that landlords can always refinance in order to avoid this payment shock to yet another deeply discounted product with yet another high fee.
Adding huge fees to the loan – and paying interest on these huge fees – is potentially borrowing on an unsustainable basis, especially where this is routinely repeated.
These fees can be 3% or more of the loan and are added to the loan and interest is of course charged on the capitalised fee. Over the life of the mortgage a 3% fee on a £150,000 loan could easily cost the borrower over £15,000 over a 25-year life – a whopping 10% of the original balance.
So is a landlord best advised to take such a product? After all a two-year fix in the current environment is unlikely to offer a great deal of protection against a rise in interest rates, arguably a two-year fixed sold today goes variable at just the point at which rates are likely to be on the increase.
In the past the sale of heavily discounted product has been justified on the basis that the broker will ‘churn’ the loan in a couple of years’ time. This doesn’t stack up on a number of levels.
Firstly, the borrower may not be able to find a better deal or may not qualify on the same criteria in a couple of years’ time. Second, if the borrower is adding huge fees to their balance every couple of years they will soon run out of usable equity in a normal housing market.
Then there is payment shock. If the only way a landlord can afford any given mortgage is at the highly discounted rate, then maybe they should reconsider whether this is the best move for them.
A deeply discounted rate by its nature guarantees a greater payment shock when the product moves to the reversion rate. If a landlord understands and plans for this then all well and good, but if they are crossing their fingers and hoping to refinance then something is very much amiss.
It is important that we have a buy-to-let market that is fit for purpose, with landlords that have sustainable businesses for the long-term. At Paragon our very best-selling product is our five year tracker, a no-nonsense good value rate for professional landlords with no smoke and mirrors.
As I said at the start of this blog, these products have their place, but an over-reliance on heavily discounted products with inflated future fees at the end of the term will only unbalance the market and in turn restrict the level of growth the private rented sector needs.
John Heron is director of mortgages at Paragon
