Should we take out a £1 million interest only mortgage?

[Scandala]

The following relates to London and it will sound utterly absurd to nearly everyone. We live in an ordinary house but have lived here so long we are climbing the walls. Mortgage is paid off (I know we are super lucky). We want to move closer to DCs’ school/s into an area that is sadly far more expensive. Stamp duty is crazy and it seems next step up on housing ladder in this area costs at least £1million more! This is for detached house with parking in leafy street, not mansions. Was astonished to hear broker telling me we are typical of people buying in that bracket and that they all take out interest only mortgages. The interest payments are no more than £1500 a month for £1.3 million. Our equity would be about 60%. Thing is, houses in the target area have soared. If they double in a decade in the same way that our more modest house has then isn’t it a better investment? We are mid-40s and 50 so not young. DC are still in primary school and we have years of school fees ahead of us. Combined earnings mean we ‘qualify’ for that size mortgage and can even go higher. Nervous at thought of starting again though but I guess it’s now or never. Are we mad?

I assume that as you’re such high earners you have savings/investments you could call upon if things get tough?

It doesn’t sound like a terrible idea though I can see why you are nervous.

How long can you fix the interest for? And what is the area (out of interest, but also might be relevant to likelihood of prices changing).

I have mixed feelings about this.

You would be effectively renting from the bank, with your equity lodged in the property. There is both risk to the downside as well as the upside. I think counting on the prices doubling is an overly optimistic view though.

You could make enquiries to the banks but be aware approval is not easy to come by on interest only without any other clear repayment means. Remember when any bank lends its main question is ‘how will I get my money back’ and in this instance I think you’d have to state a date by which you’d downsize and repay the loan with your equity.

Also be prepared for them to run an affordability check taking into account the school fees etc as a stress test to see if you could afford to switch to a repayment plus rising rates

As long as you have other means to pay the mortgage off at the end of the term or plan on moving, I don't see why not.
It worked for us and as an investment it was pretty good.. We paid interest only on our house for the best part of 20 years. It was a tracker mortgage at just over the base rate. So less than £50 a month when interest rates were at their lowest. It was a no brainer really, especially in the early days when I was a SAHM to 3 little children
In those 20 years our house increased in value massively.

The kids left home and we were rattling round it so we've just downsized, paid off the mortgage, bought our new one cash and still have a sizeable pot of money left over.
Our mortgage wasn't for a million but 20 years ago it seemed a lot. It's all relative and if the bank will lend you that much then you probably can afford the payments.
If it were me - I'd go for it.

A lot of people do this instead of paying rent. If it all goes tits up you sell the house and move on.

If you have a decent mortgage free house can you not improve it's value by extending/improving it in some way? Taking on such a huge additional financial burden now seems very risky as mortgage rates are likely to go up as other pps have said.

My exH bought a property in a sought after London suburb in 2016. It's value has dropped dramatically recently (shame!) so property prices are not always upwards in London.

Perhaps investing in pensions and maxing out ISAs would make more sense as unfortunately the next generation are going to need a lot of help in future. Also opening SIPPs for your children's future pensions.

In the last year, three families I know have sold at a loss on London houses they bought in 2012-2015. It’s not true that prices only ever go up. They’re still happy because they lived where they wanted to live, with kids at great schools. Hard to price that life satisfaction and the so-called loss even with stamp duty is still way less than the cost of renting the same properties.

@Lottle

Banks ask how you'll replay the capital, eg a pension lump sum etc. I don't think just selling the house is a valid way. So I'm not sure you'd qualify.

I work in mortgages. Sale of property is the only option we will accept as the repayment vehicle so it has to be viable. We work on how things are at this moment in time. So if currently there is 500k equity and you say you are going to buy a property for 500k you have to give an idea of area and type of property to make sure it is viable. Realistically a lot of people have investment and pensions that will actually repay the capital but downsizing has to be the option we lend on Internet only mortgages are very different to how they used to be and now we mostly lend to people with high incomes and lots of equity who can realistically downsize in the future. We also calculate affordability based on capital and interest

My SIL did this and there was a lot of unease from more cautious relatives. But it paid off nicely, they sold the London house after a decade for double what they paid and now have a normal repayment mortgage on a huge property in the commuter belt. No way could they have afforded it without taking that initial ‘risk’. My only concern would be you are quite a bit older than they were and school fees, but it sounds as though you’ll have plenty of equity to release. I would do it.

Completely the wrong point in the cycle. Property will correct over the next 10 years, against rising inflation (not property inflation) and interest rates. It would be very unwise.

We are similar ages to you and sounds like a similar financial position. Personally I would never do it but my financial priorities are school fees and then early retirement. I’d rather stay in the over valued terraced house with the postage size garden than give up any hope of retiring in the next ten years.

Well, if you have a fool proof plan for paying it off at the end, go for it.
But interest rates can go up quickly.

Interesting question. Personally provided you can fix that interest only mortgage for 10 years, you can easily afford that £1500 pcm interest payment, and you are both prepared to sell up to pay the repayment element 9and don't start to get sentimental about the house) I would look into it further. But I would look very carefully at what I bought and where to make sure that it still had in 10y time that same resale value - nothing that needed active maintenance or 'a new roof in 5 years', that sort of thing, which might not matter if it was going to be my 'forever home'.

It depends on your attitude to risk though, and bear in mind at that price point it will take a while to sell just because your buyer numbers are limited, so if something bad did happen and you had to sell up sooner than your 10y plan (or indeed if you hang on to the 10y and then sell), you need to factor that risk in too. I wouldn't turn it down out of hand though, I'd investigate whether I could get that £1m mortgage, what I could buy, etc etc, all those practicalities first before deciding. You will also get clobbered on stamp duty when you sell; make sure you factor things like this into your overall calculation.

If they double in a decade in the same way that our more modest house has then isn’t it a better investment?

Those days are gone. How have prices changed in the last few years?

The interest payments are no more than £1500 a month for £1.3 million.

For 700k that's very good

When taking out an interest only mortgage, you have to satisfy the lender that you have the capacity to repay the mortgage in full at the end of the term.

If you can't, you'd have to sell the house towards the end of the term and if house prices haven't risen, possibly walk away homeless and still owing money.

It's a hell of a risk.

@sashagabadon

I don’t see the financial risk? You will own 60% of an expensive house. That’ll remain the same even if prices drop a bit so you’ll easily be able to downsize later. I think of interest only like renting but without the threat of being turfed out by private landlord with 2 months notice. Interest rates going up are a risk so a long fix is sensible

OP is talking about the new house costing c£1m more. So if her current property is worth say £400k she will be borrowing £1m against a property costing £1.4m - so will own 28%

Therefore the risk is that a drop in value of more than 28% ie from £1.4m to below £1m will leave OP owing money that she may not have on any future sale

My friends did this and bought a £1m property on interest only mortgage just after a property value boom. They also had c20% equity so borrowed c£800k but the property value ultimately fell to £600k. They were forced to sell at a specific time due to owing the bank for other rental properties that were also all in negative equity and it was all one big financial mess

I would be comfortable with this plan if buying when property values are at a low - but very nervous of buying now when prices have been rising and there is a period of relative uncertainty ahead when interest rates could rise and / or property values could fall

But then I’m quite risk averse….

Interest only mortgages don't have to be bad my parents had one for a bit.

However if you earn loads why not repay some?

It's basically just like renting isn't it? Except you have the security of not being kicked out, equity in the property and if things really do go tits up you can sell and still have enough to buy elsewhere (albeit not in the same area). Go for it as long as you think you really have thought of all possible eventualities.

I'm confused now. How much do you want to borrow & what are the repayments?

Could we see a mass sale of homes in the next few years as baby boomers scramble to down size?

This is a theory but again who knows. In my part of london prices haven't really changed much since Brexit once you factor in SD. They are high though.

I'm sure we were told that interest only mortgages were no longer available. Isn't that, in part, how the banking crash happened?

Also I don't think 2022 is a blip, cost of living is only going to go up. I also think we will see more tax rises in other areas.

Also have you considered the cost of stamp duty? Stamp on a £2.8m property is about £250k. And then you’d presumably be selling in ten years, buying a new home and paying stamp duty again.

Yes, if you are a gambler then do it. It might pay off. But then it might not if house prices crash.

Personally, I wouldn't gamble with the roof over my head especially if I had children.

If you need a 1.3m House but can't afford the repayments then you need to ditch the private school aspirations to be able to afford it.

If you need the private schools then you will need to reduce your house aspirations to be able to afford it.