Andrew Vine: Rates of uncertainty in a gamble on price of home

First-time buyers are having to gamble to gain a foothold on the property ladder.
First-time buyers are having to gamble to gain a foothold on the property ladder.
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I DROPPED off a “welcome to your new home” card and a bottle of bubbly the other day with a young couple who have just bought their first house.

It’s been a struggle for them. House prices have risen, but their wages haven’t. They’ve gone without to save for the deposit, but it has still taken years to get on the property ladder.

But they’ve finally got there, and are delighted. Except for one thing that worries them – the amount they have borrowed.

Their loan amounts to five times their joint income, which made me wince. When I bought my first house, 25 years ago, I borrowed two and a half times my salary, and lenders were reluctant to go above that ratio.

They are at the farthest extreme of what they can afford, and it’s a calculated gamble that the property will appreciate in value quickly enough to bale them out if they hit problems.

The alternative was to keep shelling out so much in rent that saving enough to buy with a more manageable loan always remained tantalisingly out of reach.

I hope their gamble pays off. Theirs was a familiar dilemma for countless young people – and their parents – in an era when owning a home appears to be an increasingly distant prospect for many.

Do we play safe in continuing to rent or move back in with mum and dad? Or do we take a deep breath and stretch ourselves to the absolute limit in the hope nothing goes wrong?

Increasing numbers of people are risking it. Recent figures from the Bank of England showed that 140,000 have taken out home loans in excess of four and a half times their wages in the last year. That’s a rise of 15 per cent over the previous 12 months.

Such a growing level of debt has prompted the Insolvency Service to warn that tens of thousands of people are at risk of going bankrupt if their circumstances change and they have difficulty in making repayments.

It’s the consequence of a housing market that pushes people into borrowing more than they can sensibly afford, and it is sowing the seeds of another financial crisis.

How quickly we seem to have forgotten the lessons of the 2008 crash, and that its roots lay in a toxic combination of irresponsible lending and bad debt. There’s a danger that the whole destructive cycle will repeat itself.

The Bank of England warned last week that rates are likely to rise within the next year, and that spells trouble for the financially overstretched.

The couple settling into their new home have taken out a mortgage that tracks the bank’s base rate, so are vulnerable to any increases. That’s at the heart of their disquiet over the amount they have borrowed, but part of the gamble on taking the loan is betting the interest rate isn’t going to increase any time soon.

They are not alone in that. At least they recognise their potential vulnerability, but others do not.

The historically low rates that are such a despair to savers – especially older people who planned to take an income from their savings in retirement – have lulled the young into believing that low-cost borrowing is here to stay, which is a dangerous assumption.

A generation has grown to adulthood and started entering the property market knowing nothing other than rock-bottom rates.

The period that we have lived through since March 2009 when the base rate was slashed to 0.5 per cent will come to be seen as freakish, a response to the consequences of a crash so devastating that the repercussions continued for years.

Even more freakish was last summer’s further cut to 0.25 per cent to offset any economic jitters after Britain voted for Brexit.

A normal state of affairs would see rates set much higher, and anyone fooling themselves that won’t happen over the 25-year course of a mortgage is in for a very nasty shock.

When I told the new homeowners that my first mortgage had an interest rate of about 11 per cent, they were incredulous, even asking if I had been swindled by some sort of loan shark.

Far from it. It was with the Halifax, and I hadn’t batted an eyelid at the rate for a tracker mortgage exactly like theirs. Nor did anyone else buying property at the time. That was simply the norm in the early 1990s, and the cost of borrowing was a factor in determining the type of home I could afford.

Lenders would do well to return to the old rule of thumb that two and a half times wages is a realistic loan to offer. It’s inevitably going to mean disappointment for many hopeful buyers, but that is preferable to financial ruin.

It’s impossible to know how high interest rates will eventually go, but a reckoning is on the way that threatens to turn young people’s dreams of owning a home into a nightmare.

Read Andrew Vine every Tuesday.