By Lucy Waters - Managing Director for Aria Finance
As the old proverb goes, there’s nothing certain in life but death and taxes. Until recently, the traditional 25-year mortgage term was all but a certainty.
When I was cutting my teeth in the industry, it was extremely rare to see anyone taking out a term that was longer than 25 years. It just wasn’t really a thing.
However, times have changed, and the once-popular 25-year mortgage term is becoming a dying breed among today’s first-time buyers.
Data from UK Finance shows that, by the end of 2023 nearly six in 10 FTBs took out loans with terms of 30 years or more. What’s perhaps more shocking is that nearly one in five FTBs in December last year applied for a loan with a term of 35 years or more.
That’s a very different place to where we were. Rewind to the end of 2008 and just two in 10 borrowers took out mortgages with terms of 30 years or more. Terms of 35 years or more were virtually non-existent, accounting for just one in 20 FTB transactions.
So why are today’s FTBs so readily willing to saddle themselves with debts that they will more than likely take with them right up to – or even into – retirement? There are several factors at play here.
Soaring inflation and borrowing costs have clobbered FTBs more than any other type of borrower. First, they tend to earn less than older, more experienced workers and, second, they have far less equity, meaning they pay higher rates of interest.
Extending a mortgage term by just 10 years can make a huge difference to FTB’s quality of life. Therefore, it’s perhaps unsurprising that FTBs have looked to reduce their outgoings as the cost of living has soared.
For example, the monthly repayments on a £250,000 loan over 25 years at 5% comes in at £1,461.68. Extend the term to 35 years and a FTB can shave nearly £200 off their monthly repayments.
However, while extending the term brings down the monthly repayments considerably, it can add thousands to the total cost of the loan. In the example above, the borrower will end up paying more than £91,000 extra in interest by extending the term by 10 years.
We’ve seen in our second charge division that borrowers’ primary focus right now is to bring their monthly costs down, whereas it used to be the total cost of borrowing.
But while the desire to keep costs low in a higher inflation, higher interest rate environment is the driving force between the recent uptick in FTB mortgage terms, other factors have also played a part.
The Mortgage Market Review (MMR), which came into force in 2014, rightly introduced new rules to ensure that lenders only accepted borrowers who could afford their loans.
While I believe the MMR was absolutely the right regime to introduce, there is no denying that it has made it more difficult for some FTBs to get onto the housing ladder.
But arguably the biggest contributory factor behind the rapid extension of mortgage terms has been the rapid ascent of house prices over the past few decades.
Data from Nationwide shows that in just nine of the past 71 years have house prices ended a calendar year lower than they were at the start.
Separate data from the Office for National Statistics (ONS) shows the average home cost 8.3 times the typical salary last year. In Wales, things were slightly better, with the average house costing 6.1 times income.
But the fact is the last time housing was what the ONS considers ‘affordable’ – five times income or less – in both England and Wales was 23 years ago.
When interest rates start to fall and inflation is back at the Bank of England’s 2% target, the pressure on FTB finances will start to ease. When that happens, it’s likely we will see reduced demand for longer mortgage terms.
However, the trend won’t reverse completely until we find a way to build enough homes to satisfy demand. The best way to do that is to completely transform the planning system.
Both the Government and Labour have been making noises about planning reform over the past few months but it’s time they turned action into words. The positive economic and social benefits are too large to ignore.
