The government’s Help to Buy scheme announced in the recent budget has extended the availability of Equity Loans to all buyers of new-build homes.
Equity loans give a top-up to buyers who only have a low deposit. They should then be able to get an ordinary mortgage for the rest of the purchase price.
But these loans work rather differently to ordinary mortgages. Although an Equity loan will still have to be repaid when the property is sold, the amount payable will vary according to the sale price, as this article will explain.
The attraction of an equity loan
The attraction of an Equity loan is that no interest will be charged initially, and no regular repayments have to be made. So buyers will be better-placed to afford the mortgage for the remainder of the price.
The maximum that can be borrowed under this scheme is 20% of the purchase price of a property. Buyers will still need to find at least 5% of the price, and otherwise meet the requirements of the scheme.
Say someone wants to buy a new home for £200, 000. As long as they have £10, 000 available as a deposit, the Help to Buy scheme will top that up with another £40, 000 equity loan. This will give them a total deposit of £50, 000, so they would only need to borrow £150, 000 from a mortgage lender such as a bank or building society.
If a buyer does not sell the property within five years of purchase, a fee of 1. 75% per annum will be charged on the outstanding amount of the loan. This fee will increase each year by the increase (if any) in Retail Price Index plus 1%.
The loan will be registered against the property title, in the same way that an ordinary mortgage is registered. This means that when the property is sold the loan must paid off.
Amount to be repaid will vary
Unlike a regular repayment mortgage, where the amount repayable will gradually reduce, the amount which has to be repaid on an equity loan will vary according to the value of the property at the time of sale.
This is because the amount secured on the property remains a constant proportion of the value of the property, rather than a fixed amount of money. So if the original loan was 20% of the purchase price, the amount required to pay off the loan will always be 20% of the property’s value, whether that is higher or lower than the original price.
If in the example above the property was sold for £220, 000, the amount which would have to be paid back will be £44, 000 instead of the £40, 000 originally borrowed. But if property prices fall, then the amount repayable will also fall in proportion. So if the same property only fetched £180, 000, the amount repayable would be £36, 000.
Buyers are free to sell their property at any time. (The equity loan scheme is not like Shared Ownership, where a housing association retains a share of the property. ) However owners are required to show that a proposed sale value is at the current market value before going ahead, and the sale has to be approved before allowing the second charges can be released.
As with any sale, the main mortgage has to be repaid first out of the proceeds of sale. The equity loan will then be payable out of the remainder, with any balance going to the owner.
Although owners do not have to make any regular repayments, they can pay off all or part of a loan at any time. But the amount payable will again vary according to the value of the property at the time any payment is made.
Partial repayment is often called “staircasing’. Such payments can be made at any time but must be a minimum of 10% of the home’s market value at the time of payment – whether that value is more or less than when originally purchased.
To illustrate this, the owner who originally took a 20% equity loan on a £200, 000 property and wanted to halve his liability would have to make a staircasing payment of £22, 000 if the value had risen to £220, 000. But if the property value had fallen to £180, 000 he would only have to pay £18, 000 to achieve the same reduction.
It is worth bearing in mind that a staircasing payment has the effect of reducing the loan by a proportion of the original loan. So if an owner paid £18, 000 to reduce his loan by 50% his outstanding liability will be 10% of the value of the property, not 10% of the original loan.
So following the example in the previous paragraphs, if the property was sold later for say £200, 000 (i.e. the original price, ) the amount required to settle the outstanding loan would be £20, 000. The owner would thus have paid a total of £38, 000 (plus any fees) to repay the original £40, 000 loan.
Of course if property values have risen, then a higher amount will have to be repaid to settle the loan.
Staircasing payments will be taken into account when calculating the annual fee payable if the purchaser still owns the property after five years.
Buyers will be able to access these loans through participating house-builders and HomeBuy agents, who can provide more information about the eligibility criteria.
Anyone buying a new home needs legal advice from a Conveyancing Solicitor who is knowledgeable about new-build property purchases. Call Fridaysmove on 0845 6435 785 for more information.