Swingeing new terms are being imposed on lenders by the insurance companies that provide cover against losses on repossessed homes, adding to pressures on the cost of home loans.
The Abbey National has become one of the first large lenders to agree new terms with its insurers, Legal & General, Commercial Union and Royal Insurance. The terms have reduced the amount of cover available to Abbey. The society is now looking at ways to plug the gap. It could try to buy extra insurance elsewhere or change its lending terms to reduce risk.
Indemnity insurance covers the top slice of a loan, normally the portion between 75 per cent and 95 per cent of the property's value. The borrower pays, but if the society repossesses and sells at a loss it picks up a refund. Premiums paid by borrowers for indemnity insurance are now steep, following a round of increases last year (see table), and frequently have to be paid as a lump sum.
The new terms agreed by Abbey mean that the maximum it can claim is 80 per cent of the loss, with a ceiling on this equivalent to 20 per cent of the value of the property when it was bought.
Lenders are at greatest risk of losing money when a borrower raises a large proportion of a property's value. So lenders are looking hard at whether they can afford to offer 95 per cent loans in future and, if so, on what terms.
Large lenders like Abbey will want to continue to offer 95 per cent loans to first-time buyers because they are crucial to the health of the housing market. But interest rates charged on 95 per cent loans could be raised to make up for the extra risk.
Abbey is expected to decide in the next two months whether it needs to introduce new terms for first-time buyers.
Leeds Permanent Building Society is still negotiating with its insurers. Norman Turner, head of insurance and investment services, said: 'People wanting to borrow more than 75 per cent of the value of their property may have to pay more.'
Penalties for high loan-to-value loans could hit second-time buyers as well as first-timers. People who have bought homes in the past few years have had little opportunity to make profits for deposits on new homes. Mr Turner said the Leeds would probably want to make special arrangements for existing borrowers in this position so that they did not suffer.