Interest-only mortgage book still shrinking, but path ahead will be slower

Today we released our latest annual update of data on the size and profile of the stock of outstanding interest-only mortgages in the UK.

As with each year since we’ve collected these data, 2022 showed a further reduction in the size and risk profile of the interest-only book, as customers continued to repay their loans on or ahead of schedule.

Overall, the stock of outstanding interest-only mortgages fell by eight per cent in 2022, compared with the position at the end of 2021. As a result of the whole-of-industry collaborative strategy to manage down the size and risk profile of the interest-only book, there are now 924,000 interest-only mortgages outstanding, just over one quarter of the 3.2 million that were in place in 2012, when we first started collecting these data (Chart 1).

Chart 1: number of residential interest-only mortgages outstanding

number of residential interest-only mortgages outstanding

Source: UK Finance

Flexibility is not without its risks
Interest-only mortgages offer flexibility in how to repay capital, which works well for some customers, depending on the specifics of their employment and wider financial circumstances. As such they have been a permanent fixture in the UK mortgage market over the years, particularly through the 1980s and 1990s.

However, a series of exogenous shocks to pension and endowment funds through the 1990s and 2000s shone a spotlight on the repayment risk inherent in interest-only lending. And, although lenders have always sought to establish at the point of sale that customers borrowing on interest-only terms have valid repayment plans in place, unforeseen events can always occur which hinder the capacity to repay the capital at the end of term.

Recognising this risk, and in collaboration with the industry regulator, the industry has run a continuous, evolving communications programme since 2014. On a regular basis, lenders reach out to their interest-only customers to discuss their plans and make sure they are on track to repay. As a direct result of ongoing dialogue, the interest-only book has shrunk rapidly and with it, the hypothetical risk of non-repayment.

In 2022 the contraction of eight per cent, while substantial, was less in percentage terms than that seen in previous years. However, this does not reflect any reduction in resource given to contact programmes. Rather, having already shrunk by nearly three quarters in just ten years, the capacity to maintain this rate diminishes each year as the book reduces. In addition, the flow of new interest-only mortgages, while very small now compared to that seen prior to the global financial crisis, is now enough to offset redemption activity to a greater extent given the smaller size of the existing stock.

In fact, the inflow of 33,000 new interest-only loans last year, worth £12.2 billion, represented only three per cent of total new lending. But because the average value of a new loan is significantly higher than that of the mostly much older existing interest-only book, this was enough to slightly more than offset the reduction from redemption activity, resulting in a marginal £1 billion net increase in the value of the interest-only stock over 2022.

Will the shrinkage continue?
The rate of reduction in future years, both in number and value, will depend in large part on the scheduled maturity schedule of the remaining stock. However, as borrowers continue to redeem on or, in many cases, well ahead of their contractual end of term, we do expect the shrinkage to continue, albeit at a progressively slower rate for the reasons set out above.

Addressing the still-hypothetical spectre of interest-only borrowers being unable to repay their loans, the internal data we have indicates that interest-only loans maturing last year followed the same pattern as we have seen over the past ten years, with the vast majority redeeming in full on, or shortly after, their scheduled end date.

The industry continues to work with that small minority who are unable to do so to find a sustainable way for these customers to repay over time, as it has successfully done for over a decade, as the interest-only book continues to reduce in size and risk.

View the interest-only mortgage data here.

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