Mortgage Warning! The Evaporating Equity Trap.

MSE_Martin · 11 November 2008 at 8:15PM

In this weeks email, I discuss an effect of the impending recession I am calling Evaporating Equity. Please click reply at the bottom of this post to give your views...

The Evaporating Equity Trap.

Although negative equity (owing more than your house’s worth) hits the headlines, more will suffer from what I call ‘evaporating equity’; when house price decline kills your ability to get a cheap deal.

It's about Loan-to-value (LTV) ratios.

LTVs describe the proportion of a property's value you’re borrowing (e.g. a 20% deposit gives an LTV of 80%). As house prices are fallingquickly, mortgages are becoming a bigger proportion of house values.

E.g. With a fifteen percent house price drop, someone with an 80% LTV last year would've jumped to 94%. At the same time, it's got harder to get a good new mortgage deal, now you can need an LTV as low as 75%... meaning many will be left in the lurch.

ACT NOW before the rate cut hits.

One option that'll contribute to keeping the LTV as low as possible is utilizing last week's rate cut. Unless you're on a fixed deal, your monthly repayments will drop by £100-£120 per £100,000 of mortgage.

Thus if you’ve no credit card debt or overdraft & some emergency cash saved up, then don’t get used to new extra cash start putting it (and any spare cash) towards overpaying. If the lender doesn’t allow that, save the extra cash, and at remortgage time repay some debt so you'll need to borrow less. This will help creep the LTV down.

For More Info: Read the Should I overpay my mortgage guide, the Free Printed Remortgage Guide

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Rikki · 11 November 2008 at 8:23PM

Its a scary thing but a lot more people are being affected by this than they realise. Many are okay providing they don't need to change their mortgage but those coming to the end of their fixed deals are going to find it increasingly difficult to get a good deal.

space_rider · 11 November 2008 at 8:41PM

I found that when I came to remortgage so ended up staying with my existing lender. I will be keeping my payments the same as I budgeted to be on the SVR.

djm1972 · 11 November 2008 at 8:55PM

Surely overpaying by such a relatively small amount is insignificant in terms of reducing the LTV. Personally, I'm keeping the spare cash to hand in these times of uncertainty.

Just trying to work this through. You cite an original 80% LTV mortgage against a house price fall of 15% now being equivalent to 94% LTV:

£200,000 mortgaged at 80% LTV = £160,000
...after a 15% drop:
£170,000 mortgaged at £160,000 = 94% LTV
...after a 15% drop with 2 years * £150 overpayment:
£170,000 mortgaged at £156,400 = 91% LTV

In other words, still a long way from being able to remortgage onto the "best" deals, on which basis I'd rather have that £3600 in the bank in order to help with the slightly higher mortgage costs of a £160,000 vs £156,400 mortgage - a difference of £21 / month on a repayment mortgage at 5%.

And that's based on 2 years overpayments. If you're talking about people remortgaging in the next few months it's even less significant!

space_rider · 11 November 2008 at 9:03PM

I`ve just worked out that if I leave my payments the same and even if interest rates stay at 3% over the next 5 years I will have paid just over 10,000 extra. My house has reduced in value at around £30,00 in the 2 years I`ve had it. If they continue to reduce even at a slower rate I`ll still end up being stuck with my existing lender as I won`t get a better deal.

Lynn11 · 11 November 2008 at 9:09PM

I just hope that we can geta reasonable deal from our existing lender when our fixed rate comes to an end, if no-one else will consider you, I have been paying in extra into our mortgage but we will find out end May 2009. As long as we are able to pay our mortgage and keep our house, hopefully the values of our homes will increase.

Snow_Dog · 11 November 2008 at 9:21PM

djm1972 wrote: »

Surely overpaying by such a relatively small amount is insignificant in terms of reducing the LTV. Personally, I'm keeping the spare cash to hand in these times of uncertainty.

Just trying to work this through. You cite an original 80% LTV mortgage against a house price fall of 15% now being equivalent to 94% LTV:

£200,000 mortgaged at 80% LTV = £160,000
...after a 15% drop:
£170,000 mortgaged at £160,000 = 94% LTV
...after a 15% drop with 2 years * £150 overpayment:
£170,000 mortgaged at £156,400 = 91% LTV

In other words, still a long way from being able to remortgage onto the "best" deals, on which basis I'd rather have that £3600 in the bank in order to help with the slightly higher mortgage costs of a £160,000 vs £156,400 mortgage - a difference of £21 / month on a repayment mortgage at 5%.

And that's based on 2 years overpayments. If you're talking about people remortgaging in the next few months it's even less significant!

I agree totally, I think that its right to raise awareness of the diminishing equity situation affecting the LTV ratio of your mortgage.

However the original post does give the impression that overpaying the mortgage by the reduction caused by the recent rate drop will "beat this trap", as pointed out by djm1972 it will take a lot more to beat this one.

A more balanced view suggests that overpaying will help, however I personally think that given the difference the extra overpayments will make in the next couple of years, most people may be better off investing their £100-£200 in the best value ISAs, at least while thay can match or beat the mortgage rate. That way they have the money there available if the worst thing happens.

I for one would like to have a £3000 buffer in times of dire need rather than thinking my mortgage is £3K less but now i've got no buffer.

This way, when its time to remortgage the buffer can be then used if the LTV is borderline, eg 81%

manikm · 11 November 2008 at 11:04PM

Snow_Dog wrote: »

I agree totally, I think that its right to raise awareness of the diminishing equity situation affecting the LTV ratio of your mortgage.

However the original post does give the impression that overpaying the mortgage by the reduction caused by the recent rate drop will "beat this trap", as pointed out by djm1972 it will take a lot more to beat this one.

A more balanced view suggests that overpaying will help, however I personally think that given the difference the extra overpayments will make in the next couple of years, most people may be better off investing their £100-£200 in the best value ISAs, at least while thay can match or beat the mortgage rate. That way they have the money there available if the worst thing happens.

I for one would like to have a £3000 buffer in times of dire need rather than thinking my mortgage is £3K less but now i've got no buffer.

This way, when its time to remortgage the buffer can be then used if the LTV is borderline, eg 81%

excellent advice- and i agree totally

MSE_Martin · 11 November 2008 at 11:56PM

Some very good points above. The prime aim of my note was to raise the spectre of disappearing equity; but perhaps in doing that I've oversimplified, it was my intent that people would read the 'should i overpay' guide which contains all the above info - but as I can see that's not what people are doing I'm going to tweak the note to get the point across.

Thanks for the points

I've amended the post above too.

Martin

barnaby-bear · 11 November 2008 at 11:58PM

djm1972 wrote: »

Surely overpaying by such a relatively small amount is insignificant in terms of reducing the LTV. Personally, I'm keeping the spare cash to hand in these times of uncertainty.

Just trying to work this through. You cite an original 80% LTV mortgage against a house price fall of 15% now being equivalent to 94% LTV:

£200,000 mortgaged at 80% LTV = £160,000
...after a 15% drop:
£170,000 mortgaged at £160,000 = 94% LTV
...after a 15% drop with 2 years * £150 overpayment:
£170,000 mortgaged at £156,400 = 91% LTV

In other words, still a long way from being able to remortgage onto the "best" deals, on which basis I'd rather have that £3600 in the bank in order to help with the slightly higher mortgage costs of a £160,000 vs £156,400 mortgage - a difference of £21 / month on a repayment mortgage at 5%.

And that's based on 2 years overpayments. If you're talking about people remortgaging in the next few months it's even less significant!

But iff those LTV values had been 83% vs. 79% and taken you over a boundary - this was the case for us we squeaked under a boundary for a BoE tracker coming off fixed only for the sake of a £50 per month overpayment

---lee--- · 12 November 2008 at 12:02AM

Stick with mortgages that have reasonable rates but without any redemption/early repayment fees, [FONT=&quot]arrangement [/FONT]fees or exit fees etc.

That what I did a couple of years ago when I signed up with ING's tracker. It was not the cheapest rate at the time (<.9% over BR) but it was a good deal as it had none of the above fees.

I was only going to stay with it on a temporary basis until something better came along then I decided to stop looking and stick. Why have the [FONT=&quot]hassle [/FONT]of chasing down the latest deals every couple of years?

Mortgage Warning! The Evaporating Equity Trap.

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