The heavy price of cheap loans

Lenders' plans to scrap mortgage charges may cost dear, says Andrew Verity

Mortgage lenders this week began to debate a wholesale reform of the way mortgages are marketed by proposing changes that could block the sale of a whole swathe of mortgage products.

Adrian Coles, director general of the Building Societies Association, is urging the industry to consider a complete ban on redemption penalties on mortgages with variable rates.

If enough lenders are in favour, the ban could be built in to the Mortgage Code - the voluntary system designed to eliminate sharp tactics in the mortgage market. Home loans which depend on redemption penalties would then struggle to survive.

One major effect, however, would be the end of cashback mortgages. These pay a lump sum upfront which is then added to the loan. The lender locks the borrower in for a set period of years - long enough to recoup the upfront lump sum.

If there were no redemption periods on cashbacks then chaos could ensue: a borrower could switch between lenders at no loss, picking up a tidy cash sum every time. The redemption penalty is usually something like the size of the cashback - up to 5 per cent of the loan.

Lenders would also struggle to offer discount mortgages. These offer a rate up to 1.5 per cent lower than the standard rate: after an initial period of, say three years, the rate rises to level slightly above the normal rate. A lender needs to know the higher rate will last long enough to pay for the initial discount, so the customer is locked in. Early redemptions can cost 5 per cent of the loan's value.

Fixed rate mortgages could still have redemption penalties while the fix lasts. But lenders would be blocked from locking in customers after the fix has ended. This would almost certainly reduce the value of any fixed-rate deals of offer (or, paradoxically, raise the penalties levied on redemptions during the fixed period).

The BSA says the abolition of redemption fees will abolish payment shock - the phenomenon of interest rates doubling as a fixed-rate period ends.

Similarly, many are questioning discounts which offer rates as low as 2.25 per cent for some years. Can customers really plan for the payment shock creeping up on them at the end of the discount period, when rates could quadruple?

Mortgage brokers, however, are vociferously opposed to the BSA's move, accusing it of trying to restrict consumer choice. Andrew Clothier, an award-winning adviser at Torquil Clark, a Wolverhampton-based firm, says: "This would make some mortgage deals much less attractive. I think this is too radical. There's still a very good case for a good cashback. For some people, who have few resources when they start a mortgage, it can mean the difference between getting a mortgage and not."

Industry observers believe the debate on redemption penalties may really be a smokescreen for a much less civilised battle for market share. In a price war described by Brian Davis, chief executive of the Nationwide, as "increasingly violent", many lenders are taking losses upfront in order to get the customers.

Cheap-as-muck fixed rates, cashbacks and discounts effectively gamble the funds of existing members: the borrower has to last a certain amount of time for the lender to make that money back. Redemption penalties are the result. But cheaper fixed and discounted rates can obscure the best variable-rate deals, which building societies believe they beat the banks and other lenders hands down on.

Building societies want to stop banks using tricks like buying new business. Without redemption penalties, they believe the mortgage price war might just swing their way.

But the BSA may run into stiff opposition from banks when the Council of Mortgage Lenders debates the proposals next month. Unlike the BSA, its members include banks and converted societies such as the Halifax. Mike Blackburn, chief executive of the Halifax, has declared his intention to use cashbacks to rebuild its share of the mortgage market.

Moreover, it is not clear whether all building societies would be that keen on ditching fixed-rate and discounted loans. many of them have attracted considerable volumes of business this way in the past two years or so.

Start your day with The Independent, sign up for daily news emails
PROMOTED VIDEO
Life and Style
Suited and booted in the Lanvin show at the Paris menswear collections
fashionParis Fashion Week
News
i100
Arts and Entertainment
Kara Tointon and Jeremy Piven star in Mr Selfridge
tvActress Kara Tointon on what to expect from Series 3
Voices
Winston Churchill, then prime minister, outside No 10 in June 1943
voicesA C Benson called him 'a horrid little fellow', George Orwell would have shot him, but what a giant he seems now, says DJ Taylor
News
i100
News
An asteroid is set to pass so close to Earth it will be visible with binoculars
news
News
ebooks
ebooksA year of political gossip, levity and intrigue from the sharpest pen in Westminster
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Recruitment Genius: Tax Assistant

Negotiable: Recruitment Genius: A Tax Assistant is required to join a leading ...

Recruitment Genius: Outbound Sales Executive - OTE £25,000

£16000 - £25000 per annum: Recruitment Genius: This is an exciting opportunity...

Ashdown Group: Java Developer / J2EE Developer - Watford - £45,000 - £47,000

£45000 - £47000 per annum + bonus + benefits: Ashdown Group: Java Developer / ...

Ashdown Group: Marketing Product Manager - (Financial Services) - SW London

£35000 - £38000 per annum + Benefits: Ashdown Group: Marketing Manager - Marke...

Day In a Page

Syria crisis: Celebrities call on David Cameron to take more refugees as one young mother tells of torture by Assad regime

Celebrities call on David Cameron to take more Syrian refugees

One young mother tells of torture by Assad regime
The enemy within: People who hear voices in their heads are being encouraged to talk back – with promising results

The enemy within

People who hear voices in their heads are being encouraged to talk back
'In Auschwitz you got used to anything'

'In Auschwitz you got used to anything'

Survivors of the Nazi concentration camp remember its horror, 70 years on
Autumn/winter menswear 2015: The uniforms that make up modern life come to the fore

Autumn/winter menswear 2015

The uniforms that make up modern life come to the fore
'I'm gay, and plan to fight military homophobia'

'I'm gay, and plan to fight military homophobia'

Army general planning to come out
Iraq invasion 2003: The bloody warnings six wise men gave to Tony Blair as he prepared to launch poorly planned campaign

What the six wise men told Tony Blair

Months before the invasion of Iraq in 2003, experts sought to warn the PM about his plans. Here, four of them recall that day
25 years of The Independent on Sunday: The stories, the writers and the changes over the last quarter of a century

25 years of The Independent on Sunday

The stories, the writers and the changes over the last quarter of a century
Homeless Veterans appeal: 'Really caring is a dangerous emotion in this kind of work'

Homeless Veterans appeal

As head of The Soldiers' Charity, Martin Rutledge has to temper compassion with realism. He tells Chris Green how his Army career prepared him
Wu-Tang Clan and The Sexual Objects offer fans a chance to own the only copies of their latest albums

Smash hit go under the hammer

It's nice to pick up a new record once in a while, but the purchasers of two latest releases can go a step further - by buying the only copy
Geeks who rocked the world: Documentary looks back at origins of the computer-games industry

The geeks who rocked the world

A new documentary looks back at origins of the computer-games industry
Belle & Sebastian interview: Stuart Murdoch reveals how the band is taking a new direction

Belle & Sebastian is taking a new direction

Twenty years ago, Belle & Sebastian was a fey indie band from Glasgow. It still is – except today, as prime mover Stuart Murdoch admits, it has a global cult following, from Hollywood to South Korea
America: Land of the free, home of the political dynasty

America: Land of the free, home of the political dynasty

These days in the US things are pretty much stuck where they are, both in politics and society at large, says Rupert Cornwell
A graphic history of US civil rights – in comic book form

A graphic history of US civil rights – in comic book form

A veteran of the Fifties campaigns is inspiring a new generation of activists
Winston Churchill: the enigma of a British hero

Winston Churchill: the enigma of a British hero

A C Benson called him 'a horrid little fellow', George Orwell would have shot him, but what a giant he seems now, says DJ Taylor
Growing mussels: Precious freshwater shellfish are thriving in a unique green project

Growing mussels

Precious freshwater shellfish are thriving in a unique green project