Whereas it used to be 25 year mortgages – now 40 year mortgages are becoming increasingly popular.
Longer term mortgages are becoming popular, increasingly amongst the young and first time buyers. It is easy to see why: deposits are often less, more money can be borrowed, and so a more expensive home can be bought. Further, the monthly repayments are usually less. Those and other immediate and short term advantages make mortgages with terms of over 30 years very attractive to so many home buyers, especially first time buyers.
However, leading lenders have started to express their concerns – particularly for the long term. This is because the interest on the mortgage loan adds up over the term of the mortgage, effectively making the loan very expensive, and potentially harder to pay back, even over decades. Lenders and regulators are warning that many home buyers are effectively draining their future wealth and savings to pay the interest back, whilst making a short term advantage in buying that dream, expensive property.
For a typical mortgage with a 25 year term, an average monthly repayment would be £948. If the mortgage was for 40 years, then that becomes £716 per month – a saving of over £200 per month. That is what appeals to so many buyers. The interest paid each month stays the same, but the repayments of capital (forming part of that monthly bill) are spread out over a longer time period.
However, the home buyer over those 40 years will have to pay interest for an extra 15 years. In this example, that would mean paying an additional £60,000; the interest over 25 years adds up to around £84,000, but the total over 40 years is £144,000. The home owner is paying more, and for longer.
Having calculated those figures, according to David Hollingworth, from London & Country Mortgages, said that “it’s a real danger. [Those buyers] need to understand that they are going to pay thousands more in interest over the life of the mortgage.” He suggests that they keep their mortgages under regular review, and shorten the payback time as soon as they can afford to make higher payments; this strategy will “save them a fortune”.
Further issues to consider are interest rates, value and income. What if interest rates rise? What if the value of the property changes over time? What if the household income remains the same, despite inflation, interest rates, and similar? It is impossible to prepare and plan personal finances for 40 years. If choosing a 40 year mortgage, it is necessary to know that the buyer will have that long term financial stability to repay over a longer period.
Recent years have seen a tightening up of mortgage regulations and lending, with stricter controls for lenders on what buyers can afford with their regular incomes. There are currently no rules limiting the length of mortgage terms, or from stopping families who already have financial issues from committing themselves to a mortgage for four decades.
Those borrowers are effectively putting off the day of reckoning, and unintentionally draining their future wealth. Whatever the immediate advantages – 40 year mortgages are ultimately a case of buyer beware.