Stress tests for UK buy to let mortgages set for start of 2017
Landlords wanting a buy to let mortgage in the UK will face tougher rules from lenders from next year but only for certain products it has been confirmed.
But buy to let mortgages with terms of less than five years, or rates fixed for five years or more, are not to be subject to the affordability stress test, the Prudential Regulation Authority (PRA) has announced.
The PRA, which was asked by the Government to undertake a review of the UK buy to let market, has set out a timetable for lenders to tighten up criteria for buy to let borrowing following a consultation which started in March.
The more straightforward changes, including stress tests, must be implemented by 01 January 2017 with the remainder by 30 September 2017.
It means that buy to let lenders will ask landlords to have higher levels of rent relative to their mortgage costs but lenders will be able to factor in rent rises of up to 2% a year when deciding whether a landlord will be able to afford a property, a factor which they were not allowed to take into account before.
The PRA will also require landlords with four or more properties to give out more information about their income and debts at a time when further change lies ahead for the sector, most notably to tax on landlords’ income from April 2017 on mortgage interest relief which is being phased out.
The PRA’s actions are intended to bring all lenders up to prevailing market standards and guard against any slipping of underwriting standards during a period in which firms’ growth plans could be challenged by the changing economic landscape and the impact of forthcoming tax changes.
It says that affordability assessments should take into account borrower’s costs including tax liabilities, verified personal income where used by the lender and possible future interest rate increases.
Lending to portfolio landlords, defined by the PRA as being those with four or more mortgaged buy to let properties, should be assessed using a specialist underwriting process and the PRA said it wishes to clarify that the provision in Capital Requirements Regulation (CRR) which reduces the capital requirements on loans to small and medium sized enterprises by around 25% should not be applied where the purpose of the borrowing is to support buy to let business.
Peter Williams, executive director of Intermediary Mortgage Lenders Association (IMLA), said that the standards are broadly in line with industry’s expectations and they offer a sensible way forward, setting sector wide baselines while at the same time allowing for firm discretion to be exercised.
‘We are encouraged that the new standards are to be implemented in a sensibly phased way over the course of the next year. In the interests of a stable market for buy to let mortgages and housing overall, this 12 month window should now be allowed to unfold free from additional change and upheaval,’ he explained.
But he also said that some points of contention remain. ‘There will be continuing concerns about the level playing field with firms outside of the PRA regime, though that is now clearly on the agenda of both the Financial Conduct Authority and Bank of England. The use of a borrower minimum interest rate of 5.5% will also remain a source of tension, not least if interest rates fall again,’ he said.
He also pointed out that since the review was first announced the industry has seen buy to let activity slow considerably, especially in the purchase market, which was entirely predictable following a host of fiscal and regulatory actions affecting landlords.
‘Separate market data from the Bank of England today is also a timely reminder that the post-Brexit landscape remains unclear, with overall mortgage approvals having dipped in August as summer set in. The PRA’s goal of making best practice an industry standard for buy to let lending and ensuring activity is sustainable remains entirely valid in this new landscape,’ he added.
‘At the same time, the new housing minister has also made clear that a good, thriving private rental sector remains important to the overall health of the UK’s property market and its ability to satisfy people’s housing needs. Access to mortgage finance is a vital part of this equation and as landlords continue to absorb changes to stamp duty and mortgage interest relief, some breathing space is needed so the market can progress into 2017 and beyond on a secure and stable footing.,’ he concluded.
The Council of Mortgage Lenders said it is pleased that the PRA has confirmed that buy to let mortgages with terms less than five years, or rates fixed for five years or more, are not subject to the affordability stress test.
The CML also welcomes the PRA’s decision to adopt the CML proposal that firms be given three months to implement the IRC and interest rate affordability stress test but have a year to meet all other regulatory requirements.
‘The new underwriting requirements broadly reflect existing practice, as the PRA says. While the regulator will need to keep the impact of the new requirements under review, we expect the effect to be modest under current market conditions, and we do not anticipate the measures resulting in any shock to the market,’ said CML director general Paul Smee.
David Whittaker, managing director of Mortgages for Business, said there are no major surprises and his firm has been predicting a move to tougher stress tests by the end of the 2016 for some time.
‘Nothing within the updated standards is a radical departure from many lenders’ existing best practices. However, those who have been slow to adjust to these standards may find themselves playing catch up with early adopters. The immediate focus for many lenders will be to adjust Interest Coverage Ratios (ICR) on shorter term products to 5.5% by the end of the year,’ he explained.
‘The changes are likely to encourage more buy to let borrowers to move to a limited company model for buy to let investment. On top of these changes, the sector will also have to manage changes to landlords’ tax relief on mortgages over the next 12 months, which policymakers should bear in mind before looking to add further layers of regulation,’ he pointed out.
‘From now on lenders and brokers will really have to ensure that they are educating landlords not only on the impact of stress tests but also the additional underwriting requirements that will bite on 30 September 2017,’ he added.