Affordability gap widens

If not already with us, there is a crisis of affordability looming for first-time buyers. New figures have shown that mortgage interest payments have reached their highest level for 15 years.

A demonstrable figure is worked out on the proportion of the income of first-time buyers that is paid out on mortgage interest, and this went up to 18.7% in April. Figures from the Council of Mortgage Lenders (CML) show that this is the highest level since 1992 when the bank rate was 10%.

Contributory effects to this rise have been the four bank rate rises in the last ten months and the increasing price of houses. In April 2006 the proportion of first-timer buyer income was 16.3%.

For those who are already on the property ladder, the situation is very similar. Home movers are also now paying the largest proportion of their salaries on mortgage interest payments since 1992, but the level is lower than for first-time buyers, at 16.3%.

These figures from CML only examine the level of income required to pay off mortgage interest payments. If the added cost of a repayment mortgage is taken into account, then the proportion of average income used for an example £125,000 mortgage rises to about 6%. Likewise, of those not on repayment mortgages, many will have endowment policies to which they contribute every month, so their percentage paid out to finance their mortgage will also be higher.

The rise in house prices over the last ten years or so has also had a big impact on the amount of house debt that homeowners are burdening themselves with. Figures once again from CML show that in April 1992, the median size of a mortgage was £39,900, and borrowers had an average sole or joint income of £18,000. Fifteen years later, in April 2007, the median size of a mortgage is £125,000 and borrowers have an average sole or joint income of £40,693. The ratio of mortgage size to income size was 2.22 in 1992 and is now 3.07 in 2007. This demonstrates the extra pressure on borrowers.

Despite the fact that the Bank of England left the base rate unchanged at 5.5% in June, it is widely forecast by experts that the rate will rise again in July or August, and will eventually reach 6% by the end of the year. The fear and forecasts of further interest rate rises have meant that first-time buyers are choosing fixed interest rates, with 88% now taking that option. For homemovers the percentage is 72% taking out fixed rates.

The rise in interest rates and the inevitable rise in mortgage rates have hit mortgage consumers and it looks as though they have finally hit home too. A cut back in spending and UK-based holidays look to be the likely trends for the summer of 2007. Home affordability and the end of fixed interest periods from two and three years ago are about to have an impact as well.

The continued increase in house prices is also providing the Chancellor of the Exchequer with a bonus in income from stamp duty, as more and more homes are falling into bigger stamp duty bands. This is also having a painful effect on house buyers. The lowest stamp duty threshold starts at £125,000, and homebuyers have to pay stamp duty of 1% until the next threshold of £250,000. In April 2006 51% of homes were bought for more than £125,000. Twelve months later that percentage has risen to 58%.

The much-hated and much-criticised system of stamp duty will inevitably be the subject of calls for a revamp, as the property industry warns that new homebuyers are finding it difficult to buy homes in towns in the more expensive areas of the UK, and they are suffering most from the tax.

In London the situation is at its worst. Rising prices have resulted in an increasing number of first-time buyers coming under the 3% stamp duty band of homes worth more than £250,000. In the capital this includes one bedroom flats. In many other areas a modest family home now has a value of over £250,000 forcing a buyer to pay 3% on the full purchase price of the house.

The affordability gap for first time buyers is continuing to widen month by month. It is also the case that the full impact of May’s base rate rise has yet to be felt by borrowers who will face higher costs in coming months as many come off old fixed rates to be faced with fixing new rates at a much higher level.

It is thought that most borrowers will manage to absorb the increase in mortgage payments. However, those with fixed rates still on old, low levels should start doing their financial planning for the months and years ahead.