So just what is a foreign currency mortgage? There has been a lot of talk about lenders pulling out of them the last week but little about the reasons why.
Simply put, if your income is in a currency that is different to that which applies to the mortgage on the property you reside in, then you are a foreign currency [FC] borrower – even if you live in the country and your wages are paid into a bank account in that country. So if you live in the UK and you are paid in euros or dollars then you would be taking out an FC mortgage where your mortgage is in sterling.
Where it gets more complicated for borrowers is that an FC mortgage includes any income required to pay your mortgage now or into the future. So if you have shares in a US company you were hoping to cash in to pay your interest-only mortgage, from 21 March that will be an FC mortgage. Similarly if someone needs income from a foreign home to pay their UK mortgage that will also now be classified as an FC mortgage.
So what is all the fuss about?
The Mortgage Credit Directive (MCD) is over 300 pages long. The bit that talks about foreign currency mortgages is just a few paragraphs. The key statement says:
Where an MCD regulated mortgage contract relates to a foreign currency loan, […] the MCD mortgage lender must ensure:
(1) the consumer has a right to convert the MCD regulated mortgage contract into an alternative currency under specified conditions; or
(2) there are other arrangements in place to limit the exchange rate risk to which the consumer is exposed under the MCD regulated mortgage contract.
What this means in plain English is that if you take out an FC mortgage and the exchange rate between the two currencies moves by more than, say, 20% you may have the right to move your mortgage to an alternative currency, particularly if you prove it is no longer affordable.
Alternatively, if the lender could cap your risk, for example if the exchange rate has gone up by 25%, the lender can agree to cap the amount payable to no more than 20%. This means that the lender has to share the risk of any currency fluctuation.
As Kris Brewster, Skipton’s head of products, said recently: “Unfortunately the new rules do mean [….] it simply isn’t cost effective for us to manage the currency risk.”
Now, 20% sounds like a big move but that has happened between the euro and sterling already, where the exchange rate moved from 1.17 euros to the pound in October 2013 to 1.44 in August this year.
In real money this means if you were paid in euros and your mortgage payments were £1,000 a month, when the exchange rate was 1.17 it would cost €1,170, this would have risen to €1,440 as the exchange rate rose, a 23% increase.
The reason these controls are being put in place is to protect consumers so keeping their home is not at risk of currency fluctuations. However, lenders are understandably not willing to share the risk. The lender can’t underwrite a foreign currency loan any differently so it is easier to say they won’t lend.
A high percentage of UK lenders will only ever lend in sterling so it is too much of a system and financial overhead to manage a handful of loans on their book in another currency with all the communications that go along with this, plus rate changes, statements and FCA reports in euros.
The only lenders likely to continue to do them will be Europe-wide banks which already carry out euro loans and have the large scale systems to deal with them; banks already operating in the eurozone will probably need to support it as otherwise they will lose business. All UK banks are likely to say no although any using the Phoebus system, which is already multi-currency, have the facility to monitor the currency exchange fluctuations and switch from one currency to another.