Mitigating mortgage debt risk in a world of rising costs
- Explain role of life cover in mitigating mortgage debt risk
- Explain how well-insured homeowners are
- Explain the benefits of life cover to society as a whole
- Explain role of life cover in mitigating mortgage debt risk
- Explain how well-insured homeowners are
- Explain the benefits of life cover to society as a whole
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No one can have failed to pick up on the radical change in mortgage costs in 2022-23 and their proportional burden on family finances.
The impact on household budgets was neatly summarised by the Office of National Statistics, which tells us that more than 1.4mn households in the UK are facing the prospect of sizeable interest rate rises when they renew their fixed rate mortgages throughout the course of 2023.
The ONS says: "The majority of fixed rate mortgages in the UK (57 per cent) coming up for renewal in 2023 were fixed at interest rates below 2 per cent.
"Those deals that are due to mature through the course of 2024 will be from two-year fixed rate deals made in 2022 and five-year fixed rate deals made in 2019, when mortgage rates were generally higher than 2 per cent."
The effect of higher interest rates will also take some time to be fully felt.
For most UK households, mortgage debt is the largest loan they will take out in their lifetime.
The National Institute for Economic and Social Research, which has modelled this rollout, says: “The research paints a dire picture for millions of households. Overall, nearly 4mn households will see higher monthly mortgage repayments as a result of higher interest rates.”
The study shows that, using an interest rate calculator of 4.75 per cent, “the typical monthly repayment on a fixed rate mortgage will rise from around £700 to £1,100 on average, and from around £500 to £900 on average for those on a variable rate mortgage. That represents a 50 per cent increase.
"This £400 increase in monthly repayments will wipe out the savings of a further 1.4mn households by 2024 as a result of higher mortgage repayments. This would take the total number of households with no savings to around 7mn – that is 25 per cent or 1 in 4 UK households."
What the Bank of England has said about rising mortgage debt
Rising living costs and interest rates are stretching household finances. Inflation is currently elevated, especially for essentials such as energy and food.
To curb inflation, the monetary policy committee has been raising bank rate, which means that many households will face higher borrowing costs on their mortgage.
Higher mortgage rates and rising costs of living make it harder for mortgagors to afford their mortgage repayments. This could cause some households to default, or cut back sharply on their spending, posing a risk to financial stability.
The BoE assesses this risk by calculating the share of households in the UK with high mortgage debt burdens, measured by cost of living-adjusted mortgage debt-servicing ratios (COLA-DSRs).
COLA-DSRs are constructed by dividing a household’s debt repayments by their income, adjusted for taxes and costs of essentials. COLA-DSRs above 70 per cent are considered high, as households with COLA-DSRs above 70 per cent are more likely to default or cut back sharply on spending.
The share of households with high mortgage debt burdens has increased over 2022 H2. The share is projected to increase further over 2023 to 2.4 per cent, or around 670,000 households, approaching levels comparable to the start of the global financial crisis.
Higher mortgage rates and inflation are the largest drivers of the projected increase in the share of households with high mortgage debt burdens. Around 4mn households will be exposed to rate rises over 2023.
This number includes those on variable rates and those coming to the end of fixed rate products during this period.
The majority of the inflation impact has been due to high energy and food price inflation.
Food and energy account for around half of households’ essential spending. Inflation for both of these has been higher than for most other essentials over 2022 and inflationary pressures are expected to remain strong over 2023.
Unemployment is also expected to increase over 2023, which will also make it harder for some households to repay their mortgage.
In contrast, higher nominal wages and government support measures, including the energy price guarantee and cost of living payments are expected to have a mitigating effect.
Nevertheless, the share of UK households who could struggle to afford their mortgage payments is expected to increase over 2023.
Mitigating mortgage risk, life cover and increased premature mortality
All of this presents challenges to the financial adviser as they try to help clients manage their way through this pressurised environment.
Since rising mortgage costs by definition increases mortgage debt risk, one possible area to explore is to mitigate that risk through life insurance cover.
If one partner in a family dies prematurely, and they have not arranged any life cover, the surviving partner and any children can be thrown into severe financial distress – distress that they will find it difficult to mitigate in any other way. Premature death is not simply an issue for the elderly.
Mortality has remained on the rise post-Covid. According to a variety of academic studies, long-term mortality has been increased by the pandemic.
