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Help to Buy: equity loan or mortgage guarantee?
First-time buyers are being helped on to the property ladder by two the government's Help to Buy scheme. Experts say one part of the scheme looks particularly good value.
by Michelle McGagh on Feb 08, 2014 at 12:01
The equity loan offered by the government’s Help to Buy scheme has not been as successful as the mortgage guarantee even though it can offer first-time buyers the chance of borrowing more at less cost.
The first part of Help to Buy, or HTB 1, was launched in April last year and saw the government provide equity loans of 20% of a property’s value up to £600,000.
The second part, HTB 2, was launched three months early in October and saw the government underwriting loans of up to 15% of a property’s value up to £600,000.
Both parts of the scheme require the borrower to have a 5% deposit.
While HTB 2 was an immediate success with 6,000 signing up to £1 billion of mortgages in the first three months, HTB 1 took longer to get going. In its first six months just 5,375 borrowers signed up, but in the following quarter from October to December numbers spiked to 7,500.
Part of this slow start may be due to the fact that HTB 1 only offers equity loans on newly built homes, while HTB 2 allows buyers to purchase any property.
Ray Boulger of independent mortgage broker John Charcol said buyers are now warming up to HTB 1 as they ignore the new build restriction and realise the equity loan is a much better deal financially than the mortgage guarantee.
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The equity loan offered by HTB 1 offers buyers a double benefit. The first is the interest-free nature of the government loan, which is interest free for five years. After this time an annual fee of 1.75% kicks in and will increase by 1% over inflation each year. The loan has to be paid back when the property is sold or the mortgage re-paid.
Boulger said most first-time buyers would probably move home within five years so would not have to pay interest on the government loan, meaning they only pay interest on 75% of what they borrow.
The second benefit is a buyer can take advantage of rates on 75% loan-to-value (LTV) mortgages, which are much better than those offered on 95% LTV loans for those using HTB 2.
‘You can afford a much more expensive property with HTB 1 than HTB 2,’ he said. ‘20% of the loan is interest free for five years so you are only paying interest on the 75% loan and you get much cheaper mortgage rates at 75%.’
He added that it was unsurprising that those using HTB 2 were buying properties worth on average £160,000 but those being bought under HTB 1 were on average £195,000.
‘That is a perfectly rational situation because if you buy a property at £195,000 with a 75% loan, you will pay it back at a lower mortgage rate and so your monthly mortgage repayments will be lower than paying back a 95% LTV mortgage on a £160,000 loan,’ he said.
The best buy 75% LTV two-year fixed term mortgage is currently from Nationwide at 2.34% while Santander offers the best 95% LTV two-year deal at 4.99%.
Boulger added that even when the five-year interest-free period for the equity loan was up the interest is ‘still not going to cost you much’.
‘HTB 1 does allow people to stretch their affordability and buy a property that they can stay in for longer,’ he said. ‘You should not forget HTB 1 and if you have a 5% deposit you should think about a new build home.’
Henry Knight, managing director of Springtide Capital, a broker, said he had seen greater interest in HTB 2 than the equity loan scheme. He did not think it was because people did not want to buy new builds, but because they did not want the government to have a stake in their home.
‘I can see why HTB 2 has got more traction because it is open to more people and you do own your property 100% whereas with HTB 1 it means another party has an equity stake in your home,’ he said. ‘New build isn’t putting people off but the fact that they do not own their home 100%.’
Despite a third party taking a stake in the property through HTB 1, Knight said the equity loan scheme allowed access to better rates and it would be easier to get a loan.
‘It is easier to get a mortgage agreement in HTB 1 than HTB 2 because lender will judge the loan on 75% LTV not 95% LTV and the lower the LTV the amount that the lender will lend creeps up,’ he said. ‘Plus the credit scoring models are more relaxed the lower the LTV and 75% LTVs are not as tightly credit scored.’
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