Trouble ahead for boomtime interest-only buy-to-let mortgages

Thousands of struggling buy-to-let investors are facing a dramatic increase in mortgage payments over the next four years.

A study by Central Bank staff says that many borrowers currently on interest-only payments are set to switch to a traditional amortising mortgage between now and 2022. That means they will have to start paying down the principal of the loan, a move that will significantly increase their monthly repayments.

Close to half of buy-to-let mortgages examined in the study were interest-only. These low-cost mortgages, typically tied to attractively low tracker rates, allowed investors to speculate in the boom years. This made monthly repayments far cheaper than if they had had to make a contribution to capital as well, thereby boosting their cash flow.

As the boom peaked, they accounted for 15 per cent of overall mortgage lending in 2007. The subsequent crash has left many investors sitting on bad loans.

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The Central Bank study examined 21,351 buy-to-let loans across three banks. Of these, it found that 35 per cent will switch to a traditional mortgage model between now and 2022. Most of the rest will not face a similar moment of truth until the 2030s.

If the figures in the research are replicated across the full Irish market, about 20,000 buy-to-let investors face dramatically larger monthly mortgage bills over the coming years. Central Bank figures at the end of last year reported that there were more than 122,000 buy-to-let loans in the market.

Typically these were available for a fixed period of time, such as 10 years, with the loan then reverting to interest and principal repayments, meaning repayments increase significantly in the latter stages of the loan.

Investors, however, would often take out such a loan with a view to selling at a greater price once the interest-only period ended.

Those taking out such loans in the run-up to the crash were left with huge loans to repay once the market collapsed. As the authors of the research note, “it is clear that these loans have performed worse than annuities issued at the same time, and have had higher LTV [loan-to-value ratios] and negative equity propensity through their terms”.

Non-performing loans

The figures from the Central Bank show there is a higher share of non-performing loans among interest-only loans.

Since the crash, interest-only mortgages have fallen significantly out of favour with lenders.

According to the Central Bank, such loans accounted for just 0.15 per cent of new lending in 2012, with many lenders shying away from offering them, while buy-to-let lending from the top five lenders accounted for just 3 per cent of overall lending in 2017.

The research also shows that more than 50 per cent of new buy-to-let loans were for properties based in Leinster (with 30 per cent in Dublin alone). Only 3.5 per cent of buy-to-let lending took place in Ulster.

One of the few providers in today’s market is Dilosk, which offers a buy-to-let mortgage with a 10-year interest-only option.

Earlier this year Fianna Fáil finance spokesman Michael McGrath questioned whether interest-only loans were a “ road we want to be going back down”.

However, the authors of the report note that a number of factors now mitigate risks, including the fact the macroprudential rules impose minimum requirements on initial borrower equity, and maximum loan-to-value ratios, “which ensures that the risk profile of new buy-to-let lending is lower than previously”.

Indeed, buy-to-let loans approved since the introduction of the Central Bank mortgage measures in 2015 have average loan-to-value ratios 10-15 per cent below the permitted 70 per cent limit, according to the research.

Nonetheless, the authors assert that a close eye must still be kept on this type of lending. “Given the potential risks, it is important to monitor interest-only lending trends and the characteristics of loans originated on this repayment schedule.”

Who's a typical buy-to-let borrower today?
Age: 45
What they're buying: Apartment
Where: Dublin or Leinster
Interest rate: 4.7%
Sale price: €245,465
Loan term: 19 years
LTV: 57.5%
Source: Central Bank of Ireland