What's happened to remortgaging since the credit crunch?
Published: 22 May 2013 | Author: Bernard Clarke
- Of the 6.9 million borrowers taking out mortgages since April 2005, some 1.1 million have since refinanced at least once. Half of them did so in 2007 and 2008.
- Around two thirds of those remortgaging withdrew equity. But a large minority paid down debt when remortgaging.
- Over half of those paying down debt had interest-only mortgages.
- Of those withdrawing equity when remortgaging, around half were financing home improvements or consolidating debt into low-cost mortgage credit.
- Borrowers with greater equity are more likely to draw on it when remortgaging. But those who have seen house price increases are more likely to withdraw equity, even if they have relatively little available.
- Many borrowers reduce their payment burden when refinancing – even those who withdraw equity.
Since the early 1990s, remortgaging has been a key feature of the UK mortgage market, allowing consumers to refinance their debt onto more attractive terms and/or to release equity in their property. This article takes a closer look at the behaviour of people remortgaaging in recent years, and the relationship between refinancing, mortgage equity and affordability.
As Chart One shows, the volume of remortgaging has varied dramatically over the past two decades. Having risen to a peak of over half of total gross lending in early 2008, it is currently running around half that level. Last year, remortgaging accounted for around 316,000 loans, worth £41 billion. This is the lowest number of borrowers remortgaging since 1997.
Chart One: Regulated remortgage lending
drives up gross mortgage lending and, to the extent that equity is withdrawn by those refinancing, it also increases the total value of outstanding mortgage debt. Data from our regulated mortgage survey (RMS) indicates that, since 2005, between one-half and two-thirds of those remortgaging have also withdrawn equity.
Chart Two: Proportion of borrowers remortgaging who withdraw equity
The RMS also contains some information on why those remortgaging choose to withdraw equity. While this cannot capture all the possible reasons, paying for home improvements and/or consolidating debts are cited in up to half of cases.
Beyond this, however, there is little data that gives much insight into the behaviour of those remortgaging.
In this analysis, we identify a subset of cases where the RMS captures details both of remortgaging and the borrower’s previous loan on the same property. Because the RMS only began in April 2005, the number of loans in this subset is less than the total number remortgaging over that period (a little over five million), as it does not include any cases in which the previous loan was advanced before the RMS started. Also excluded from this subset are instances of simple internal refinancing – product switches with the same lender with no change in the loan amount or another mortgage, as these are not generally reported within the RMS.
Using this data, we can draw out some results on remortgaging behaviour in recent years.
Of a total of 6.9 million regulated mortgages taken out since 2005 and still active in March 2012, one million (14%) had remortgaged their property once since 2005, and 130,000 (2%) had refinanced more than once.
Chart Three shows a breakdown of this remortgaging according to the timing of the loans. Of the 1.1 million, in just over half of cases the first mortgage in the period took place between 2005 and 2006, with the subsequent remortgaging transaction in 2007 and 2008.
Chart Three: Remortgaging since 2005
What else does the data show about refinancing decisions – in particular, the interactions between remortgaging, equity withdrawal and affordability? Chart Four shows the change in loan-to-value (LTV) ratio at the time of remortgaging, compared with the previous loan position. A very clear pattern can be seen: those borrowers who had a relatively low original LTV – up to 60% – typically increased their LTV when refinancing, while those at higher initial LTVs reduced it when remortgaging. And, generally, the higher the LTV ratio, the more borrowers reduced it when remortgaging.
Chart Four: Change in LTV at refinance, by original LTV
In each case of remortgaging, the change in LTV may be due to a number of factors. By definition, LTV is affected by changes in either the size of the loan or the value of the property or both. The size of loan may be partly a borrower choice; subject to affordability, borrowers may choose to withdraw or inject equity when they refinance. Equally capital repayments – whether contractual as part of regular monthly payments or on an ad hoc basis – will affect the size of the loan required when remortgaging.
Changes in the value of the property, however, are mostly a product of market conditions, which determine house price movements between the last mortgage and the current one. Decisions by the borrowers (for example, to undertake home improvements) are likely to have a more modest effect on value, particularly at the aggregate level.
These different factors combine to affect the LTV ratio from one financing decision to the next. But we can use RMS data further to estimate the level of equity withdrawal within our sample of remortgaging. We calculate this as the difference between initial loan size and that at the time of remortgaging, less any scheduled monthly repayments of capital made in the period between the two.
Equity withdrawal - and injection
From this, we estimate that 54% of those remortgaging in our study withdrew equity (including only cases where the estimated equity withdrawal amounts to at least 2.5% of the current property value). Using the same methodology we estimate that around 11% of borrowers injected equity when remortgaging. And although, as shown in Chart Three, a large amount of this refinancing took place in 2007 and 2008, the proportions withdrawing equity do not vary greatly with remortgages taking place in different years within the sample.
This is broadly consistent with the basic RMS data finding set out previously in Chart Two – that between half and two-thirds of remortgaging involved equity withdrawal. But here we are also able to make an assessment of the amounts withdrawn. Note that although we assume for simplicity that equity is withdrawn or injected when remortgaging, it is possible for this to happen at other points during the life of the previous loan.
Table One below shows the relationship between equity withdrawal and change in property value.
Table One: Equity withdrawal and change in property value
The first thing to note is that, no matter what the change in property value, material numbers of borrowers withdrew equity when remortgaging. But significant minorities also injected equity, regardless of any change in the property value. In fact, both the average amounts withdrawn and the amounts injected are not dramatically different for those who saw a rise in value, compared to those whose property was worth less. Borrowers withdrawing equity took out an average of £39,000. Within this, those seeing a fall in value actually withdrew slightly more (£33,000) than those whose property rose up to 10% in value (£32,000). Only those whose property rose in value by more than 10% withdrew materially greater amounts (£44,000 on average).
Equity withdrawal and property value
This suggests that the decision to withdraw or inject equity is driven by more than just house price changes, although, as we can see, those seeing the largest rises in value are both more likely to withdraw equity and, where they do, to withdraw greater sums.
Digging a little deeper, Chart Five below shows the proportion of those remortgaging and withdrawing equity, broken down by LTV at the point of refinancing – that is, adjusting the previous mortgage’s LTV ratio to account for both scheduled capital repayments and any change in property value over the life of that loan.
This shows a clear, intuitive pattern. We can see that borrowers with lower LTVs just before remortgaging – and therefore with greater available equity to withdraw at that time - were much more likely to draw on that equity than those with a higher LTV. This is the case regardless of whether the property’s value had risen, fallen or was unchanged.
We can also see that at higher final LTVs – of around 50% and above – there is an increasing divergence in behaviour between those who saw a rise in property value and those who did not. Those seeing a rise in value were more likely to withdraw equity.
Chart Five: Proportion of remortgagors withdrawing equity, by LTV at the point of refinance
What we take from this is that, other things being equal, the less equity there is to withdraw, the less likely it is that equity withdrawal will occur. But if the borrower has seen price rises in the past, this may influence expectations that prices will rise further, and so provide an additional incentive to withdraw equity.
This is intuitive. A lower LTV ratio (or a higher equity share) and a rise in property value both increase the potential housing equity available to be withdrawn. Of course, having this greater potential does not mean either that the borrower will choose to withdraw equity, or that their income will satisfy lenders’ affordability criteria for them to do so.
Interestingly, amongst those borrowers who injected equity, there was a significantly stronger concentration of interest-only loans. More than half (52%) of those remortgaging and injecting equity were interest-only borrowers, compared to 30% where equity was withdrawn. While a deeper examination of the actions of interest-only borrowers is not the focus of this article, it is encouraging to note this level of lump sump repayment of capital by interest-only borrowers.
Remortgaging and debt burden
Loan size and property value are not the only factors that can change between taking out the original mortgage and refinancing. The interest rate is likely to differ, and borrowers’ income may well have changed as well. And, regardless of whether borrowers pay down or increase their debt when remortgaging, these factors work to affect ongoing mortgage affordability in either direction. So it is revealing to look at how overall affordability changes when remortgaging.
Chart Six shows the change in borrowers’ payment-to-income ratio from one mortgage to the next. This ratio takes into account changes in a range of factors, including loan size, rate charged and borrower income, and brings together all these elements of affordability.
Chart Six: Remortgagors’ change in payment-to-income (PTI) ratio
The most frequent combination in this chart shows that, of the 1.1 million remortgaging, some 300,000 withdrew equity and saw a rise in payment burden. That is intuitive; all other things being equal, borrowing more money will lead to an increased payment burden.
Looking a little deeper, borrowers in this group withdrew an average of £50,000 of equity when remortgaging, and saw an average rise in payment burden from 16% to 26% of their income. Putting this in context, the typical payment-to-income ratio for a new house purchase loan in 2007/2008 (when the majority of these remortgages took place) was around 23%-24%. So although a sizeable proportion of those remortgaging increased their payment burden when withdrawing equity, the rise was from a level materially below to only marginally above that seen for new purchasers.
Beyond this, a striking result is that a significant numbers of borrowers saw a fall in their payment burden, regardless of whether they paid down or took out debt when remortaging. Around a third of the 1.1 million borrowers since 2005 saw a reduction in their payment to income ratio. And almost half of those seeing a fall in their payment burden also withdrew equity.
Since the early 1990s, borrowers have been able to use remortgaging in a variety of ways. While many have released equity to a greater or lesser extent, some have paid down debt. Others remortgaged simply to refinance onto better terms. But whatever their reasons for remortgaging, significant proportions of those doing so have reduced their payment burden, so freeing up disposable income.
Remortgaging is currently running at muted levels. Recent government interventions to stimulate the mortgage market have the potential to contribute to an increase in remortgaging, by facilitating greater access to lower-priced, lower deposit mortgages. At the same time, rules on responsible lending emerging from the mortgage market review and due to take effect next year will ensure that, regardless of the reasons for remortgaging, this borrowing will continue on a sustainable basis.