The decline and fall of interest only loans

As the credit crunch rumbles on concern has been raised about the potential extinction of the interest only mortgage.

With lenders seemingly relentlessly tightening loan criteria, the number of interest only mortgages offered has been in sharp decline.

According to research from mform.co.uk 25.7 per cent of applications for mortgages to date in 2008 were for interest-only loans, compared with 30.4 per cent in 2007.

This is borne out by data from the Council of Mortgage Lenders (CML), which finds a total of 20,400 interest-only loans for house purchases have been approved this year compared with 31,300 for the same period in 2007.

"Lenders are becoming more cautious about interest-only mortgages because of worries about house prices and our experience is that increasingly borrowers are becoming more cautious too," said Francis Ghiloni, mform.co.uk marketing and business development director.

"That is not to say that switching to interest-only is necessarily wrong. The worry is when borrowers do not have a method of repaying their loan in place.

"Coming to the end of the mortgage term and not being able to repay the loan would be disastrous."

With more than 116,000 borrowers a month are coming to the end of cheap fixed-rate deals this year, according to Financial Services Authority (FSA) figures, mform is now warning borrowers lenders are becoming stricter on approving interest-only applications.

However, the benefits can be worth perseverance.

Switching to interest-only can save around £2,400 a year in mortgage payments on a £150,000 loan at seven per cent, mform.co.uk calculates. On a repayment basis monthly payments would be £1,072.63 compared with £875 on an interest-only basis.

"We would urge anyone contemplating applying for an interest-only mortgage to research the market to find the best possible deals before taking such a step," concluded Mr Ghiloni.

Chris O'Toole