On the ladder or stretched out on the rack?

Home loans of over 100 per cent could be great for first-timers ... or a recipe for repossession
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The Independent Online

Negative equity - owing more than your home is actually worth - is usually portrayed as the bogeyman of the UK housing market.

In the early 1990s, tens of thousands of homeowners lost their homes as a crashing property market, coupled with high interest rates and rising unemployment, forced them to default on loan repayments.

Yet today, growing numbers of buyers - mostly first-timers - are being encouraged to start off their life on the property ladder in just such a position.

Tomorrow, Birmingham Midshires - a specialist lender wholly owned by HBOS, Britain's biggest lender - will offer a 125 per cent home loan.

The interest rate for borrowers has yet to be finalised, but after last week's rise in the base rate (see News, page 18) to 5 per cent, it is expected to be very close to the deal offered by rival lender Northern Rock. This is much higher than regular rates, hovering at around 5.99 per cent.

HBOS joins a select band providing loans of more than 100 per cent of the property's value. The list includes Scottish Widows, Coventry building society and Mortgage Express, a specialist lender owned by Bradford & Bingley.

Among these deals, the lowest loan is 102 per cent (Scottish Widows) and the highest 130 per cent (Mortgage Express). The latter is very expensive, with an interest rate of 6.55 per cent.

Their selling point is the room for manoeuvre provided to borrowers who can't put down much of a deposit - usually first-timers but also people, such as older divorcees, who have no assets.

The funds can be used to help pay for stamp duty, legal fees or furnishings, say, or even to consolidate existing, more expensive debts. However, the "100-up" deals come at a price: negative equity and higher interest rates that reflect the greater risk to the lender.

Despite the loan size, HBOS says it is not encouraging borrowers to overreach themselves. "We expect to turn down at least one in every two applicants," says spokesman Paul Fincham. "They will need to have a proven track record of repaying [debt] as well as a 5 per cent deposit."

Like many of these deals, the HBOS offering is slightly different to a regular mortgage. Ninety-five per cent of the loan will be secured on the house itself, and the other 30 per cent will be in the shape of an unsecured personal loan. Both parts will carry the same interest rate and constitute one monthly repayment.

The emergence of these loans - chiefly in response to high house prices - is troubling debt charities, mortgage brokers and industry bodies.

Figures from the Department for Communities and Local Government reveal a 22 per cent rise, to 24,017, in the number of court orders made for home repossession in the three months to the end of September.

And last week Citizens Advice reported that client worries about mortgage repayments, secured loans and rent arrears had shot up by a fifth in the 12 months to April this year, and this was now one of the "fastest-growing problem areas".

"Our evidence shows ... it only takes a tiny change in circumstances to tip [people] from manageable credit commitments into serious debt," says Citizens Advice spokeswoman Sarah Miller. "Borrowing at rates of over 100 per cent could see them spending half their take-home pay on mortgages."

Brokers are also vocal about the risks. Nick Gardner of Chase De Vere Mortgage Management says: "Borrowing more than 100 per cent of the property's value is fraught with potential problems.

"Take out a loan of over 100 per cent and in effect you're plunging yourself straight into negative equity." You'll need at least five years, he estimates, to give house prices enough time to rise and eradicate the extra debt.

This, of course, is where the risk lies. "If house prices don't rise, you could be trapped in that property unless you can somehow raise the money to pay off the element of the mortgage above the home's value."

That said, these loans have served some homeowners very well. Many have taken them out over the past couple of years and are now sitting on healthy amounts of equity after recent property price rises.

But David Hollingworth of broker London & Country warns that the loans are not a way simply to borrow more money.

"There's still a requirement that [customers] can actually afford the loan. It just means you can borrow more than the property's [actual] worth.

"People assume that they are being lent more than normal, but [banks and building societies] are still only lending on what they think you can afford."

He advises anyone considering a loan of more than 100 per cent to build up some emergency savings first. "What if you move in and the boiler blows up? With no cash, you could be in very serious difficulty."

Mr Gardner adds: "You have to question the wisdom of taking a deal like this at a time when house price growth looks so fragile in much of the country and more rate rises are on the way."