How to hold on to your home if the roof falls in

Peter Lilley believes individuals should be taking more responsibility for their financial decisions

GOVERNMENT plans to cut back on the mortgage interest payments it makes for people who lose their jobs has focused new attention on mortgage protection insurance. Here we try to answer some key questions:

What is the Department of Social Security planning to do?

From October 1, new borrowers who lose their jobs will no longer be entitled to have the interest paid on their mortgages for the first nine months.

Existing borrowers will not have interest payments met for the first two months and will only receive 50 per cent of their payments for four more months. There will also be a pounds 100,000 mortgage cap, so if your mortgage is for more, you won't get interest paid on the remainder.

Is there anything else?

Yes. At present, mortgage interest relief is paid no matter what the interest rate really is. From October, this will change for new borrowers to a planned "average basket" of interest rates, based roughly on the standard rate, currently about 8.4 per cent. Existing borrowers who are paying higher rates will receive a transitional payment to make up the difference. New borrowers will not.

What does this mean?

If you buy a house after October 1 and - for whatever reason - you are on a higher than average rate of interest, the Government won't pay the difference should you lose your job.

Why is the DSS doing this?

Peter Lilley, the Minister who runs the DSS, believes, and the Cabinet agrees, that individuals should be taking more responsibility for their financial decisions - rather than leaving it to the state. The DSS estimates that these changes, along with others, will save about pounds 200m.

What will be the effect of these changes?

The Council of Mortgage Lenders, which represents banks and building societies, says it will increase mortgage arrears and home repossessions. Shelter, the campaign for homeless people, last week issued a report which made the same claims.

More embarrassing for the Government, a report two weeks ago by the Department of Environment said the same thing.

Why is something not being done about it?

There is. Mortgage lenders, led by their director-general, Adrian Coles, have been lobbying Mr Lilley and other Ministers. Of course, they are not totally disinterested parties; they stand to lose pots of Government money that at present goes straight into their coffers. But many other organisations have sided with the lenders, all of them making similar points.

What can I do to protect myself if I lose my job or can't work because of illness?

Over the past few years, lenders have increasingly been selling mortgage protection policies. In the event of a borrower falling sick or becoming unemployed, the policy pays the interest on their loans. Usually, interest payments are met for a year - which is longer than the period for which the Government plans to deny benefits.

Some policies, at higher cost, also pay such bills as fuel, council tax and service charges.

How much does the standard cover cost?

Roughly pounds 7 for every pounds 100 of monthly interest payments. On an average pounds 55,000 mortgage, the amount to be paid each month for this protection will be pounds 25.

Are there drawbacks?

Several. One of the main ones is that of exclusions that apply to these policies. Generally, they only pay out after a waiting period of 30 or 90 days from the start of the unemployment. Up to then you have to use your own savings. And multiple claims are not usually allowed - if you lose your job, claim benefits, then find another job and lose that one within 12 months, your second claim may be denied. Some people over the age of 60 are not entitled to the cover.

In some cases, self-employed people or those with certain medical conditions are excluded. Where the self-employed can take out the cover, their business must be wound up before their claim will be met.

There is also the issue of not declaring pre-existing medical conditions, like heart problems, or of contributing to the reason for your inability to work, such as taking part in dangerous sports or having an alcohol- related accident. Again, you won't be paid.

It doesn't seem very good value for money.

Lenders have themselves pointed out that such policies cannot cover every risk, other than at an astronomical cost to policyholders. However, in response to Government pressure, both they and insurers are trying to devise better and more inclusive policies before the DSS changes take effect.

At present, there are no further details on this. Unfortunately, even when "improved" policies are rolled out, there will be drawbacks.

Such as?

Well, one of the ways in which lenders and insurers may improve their policies will be to "cherry-pick". This means they will offer better deals to those less at risk of falling ill or being made redundant. The idea of pooling risks will fall by the wayside as some insurers see the chance to make a fast buck by selling cheap policies to certain categories of people.

That's a good thing isn't it?

If you happen to be young, fit and in a safe job, the chances are that you will probably pay less in time. Conversely, the rest may either find it hard to get mortgage protection cover, or they will have to pay more for it.

I am young, fit and in a relatively safe job. Should I wait to see what happens?

It may pay to do so. Of course, you may be sacked, or fall ill, before then. Alternatively, you could take out an existing policy and dump it later if a better one comes along. That way, the only risk you face is the month's lead-in period before it takes effect and you have cover.

What other alternatives do I have?

Another thing lenders are planning is flexi-mortgages, where you can take interest payment holidays at times of your own choosing. Sadly, there won't be too much flexibility, because otherwise you would find yourself owing even more than you first borrowed.

If you are planning to have an endowment mortgage, it may also pay to take out a policy that allows you to have a premium holiday from time to time. You should talk to an independent financial adviser if you are not sure. To find one, call 0117 971 1177.

What about other insurance policies?

There is not much else around if you are made redundant. If you are unable to work because of sickness, it is worth finding out if you are covered through your company by a permanent health insurance scheme. This will pay a large chunk of your wages until you recover.

Such schemes are also available privately. One drawback, unfortunately, is that they do not kick in until you have been off sick for at least three months.

There is also something called critical illness insurance. On diagnosis of a major illness, such as a stroke or heart attack, these policies pay out a large lump sum that you can use as you wish. Cover worth pounds 50,000 for a person aged 30 starts at about pounds 10 or pounds 12 a month.

What happens if, despite everything, I find myself in arrears after losing my job?

Lenders are at present unwilling to repossess too quickly. If your loan is for more than the house is worth, they stand to lose by doing so. They will be relatively tolerant. For a while.

But if you fall far behind in your payments and owe more than 12 months' interest, you can be confident of one thing - a possession order against you.