Unlike home owners, all buy to let landlords have been able to buy their mortgages in an unregulated section of the mortgage market, until now.
From 21 March 2016 the buy-to-let mortgage market will be split into two: those landlords who take out a buy-to-let mortgage as a “business” operation, i.e., a project to buy a second or more homes to make money; these will remain unregulated.
On the other hand, those who rent out their own home as a temporary expedient, such as when they want to work a way for a time, or when they can’t sell and want to buy somewhere else, their type of buy-to-let mortgage borrowing will come under the regulatory control of the Financial Conduct Authority (FCA) – it will be classed as a consumer mortgage as opposed to as business one.
What will this mean for borrowers thinking of investing in property?
The European legislation known as the Mortgage Credit Directive (MCD) is designed to bring mortgage lending in-line across all member states to create a single mortgage market; it is intended to increase protection for first and second charge* lending to consumers.
The UK government has taken advantage of an exemption in the MCD which allows member states not to apply the directive to buy-to-let activity in their own way if they have an appropriate framework for regulating.
In the UK’s case, the Financial Conduct Authority (FCA) will be the regulating authority for the MCD and will therefore be implemented through rules set by the FCA and will become UK law from 21 March 2016. It will not be apply to a “business buy-to-let”.
The EU rules don’t allow the FCA to change the European standards, only to register, supervise and take action against any firm engaged in “consumer buy-to-let” from March 2016.
The “consumer buy to let” is a new concept for the UK, it’s a contract that is “not entered into by the borrower wholly or predominantly for the purposes of a business”.
It could bring in some difficulties when defining and policing such a regime:
If, for example, a re-mortgage application is made for an inherited property which the applicant had been living in since the inheritance but now wanted to let, this would be a consumer buy-to-let.
On the other hand if they had not lived in the property since the inheritance, the application would be treated as a business buy-to-let.
A more usual case would be when a re-mortgage application is for a property that the applicant had previously been lived, but now wanted let – known as a let-to-buy property – and if it is their one and only let property, this would be classed as a “consumer buy-to-let” application.
Apparently the FCA will be applying the rules flexibility in the way they interpret the legislation, so they can decide whether their client is a consumer or is acting as a business. Clients intending to operate a buy-to-let as a business, those intending to let for a profit, will be asked to sign a declaration to that effect.
What will the changes mean for UK lenders and borrowers?
- Some buy-to-let mortgage lenders will need become regulated by the FCA – it is estimated to be around 10% of buy to let mortgages will be issued to consumers.
- The currently used “Key Facts Illustration” (KFI), a document summarising the important features of a mortgage, enabling borrowers to compare offers with other mortgages, will be replaced with a “European Standard Information Sheet” (ESIS). This will then be a Europe-wide standardised set of disclosure information for borrowers.
- The requirements relating to foreign currency loans will change along with the lenders’ administration processes, procedures and documentation, all of which will need to be in line with the legislation changes.
- Some buy-to-let lenders who were not registered with FCA will have to apply for and hold the relevant new FCA consumer buy-to-let permissions if they wish to continue in business with these types of loans.
- All second charge lenders and brokers will need to be registered with the FCA.
- The lender will come under an MCD rule which introduces a “reflection period” of at least seven days, beginning when the lender issues its binding offer of a loan. This is to give the client mortgage applicant time to search the market and make comparisons, and reflect on what they are committing to. The offer remains binding on the lender during this reflection period.
- The rule changes are intended to standardise processes across the EU and better inform and protect consumers through MCD, the ESIS and the FCA.
- Consumer buy-to-let landlords will be subject to the same affordability checks as are currently residential mortgage applications which will be strictly enforced.
- Mortgage borrowers will have an automatic right to repay their mortgage early, either partially or in full.
A major UK Mortgage Market Review introduced new rules in the UK mortgage market from April 2014. It was developed with the MCD framework in mind and includes a strict affordability check to ensure a borrower can afford their mortgage, even if rates were to increase by 3% from current levels.
Currently, lenders are allowed some discretion and can waive affordability criteria on re-mortgages where there’s no additional borrowing, or they are the current lender. It is not clear if this will be allowed under MCD.
Buy-to-let mortgages have accounted for a significant part of the UK mortgage market (around 16% in 2015). MCD will bring in a new consumer buy-to-let application process meaning increased work and bureaucracy for lenders and some smaller landlords may not meet eligibility criteria when applying for a re-mortgage.
However, most people in the lending industry see that educating and protecting consumers against ill-advised lending and borrowing is a sensible rule change. By far the majority of the buy-to-let market will be seen as a “business”** operation and will remain largely unaffected.
* Second charge mortgages are often referred to as second mortgages because they have secondary priority behind a main (or first charge) mortgage. They are a secured loan, which means they use the borrower’s home as security. Many people use them as a way to raise money instead of re-mortgaging. Only home owners can get a second mortgage, although they do not necessarily need to live in the property. A second charge mortgage allows borrowers to use any equity in the home as security against another loan. It means the borrower will essentially have two mortgages on the home.
**Something of an anomaly exists in UK legislation: HMRC class buy-to-let as an “Investment “ activity for tax purposes, meaning that landlords cannot benefit from many of the business tax allowances, even less so since the 2015 Summer Budgets which removes some mortgage interest tax relief. However, in the case of mortgages as seen above, and with the Flood-Re scheme, buy-to-let IS classed as a business. Cake and eat it springs to mind!