Homebuyers want to believe they have chosen a good property, that its value will increase during their ownership and their borrowings will go down as they pay off the loan.
But a significant group of borrowers who took out loans after a house price crash are now paying the price for not considering what years of rising prices could cost them with a “shared appreciation mortgage”.
In the late 1990s, up to 15,000 homeowners took out loans with the Bank of Scotland (BoS), now owned by Lloyds Banking Group. Some of them now face debts of more than a million pounds — a multiple of the value of their property at the time they borrowed the money.
A case brought by over 200 such homeowners is to be heard in the High Court in London. It demonstrates the vital need for homeowners to take proper independent advice when securing a loan on their homes. While the circumstances of the case are specific, the outcome could set a precedent for other borrowers.
The loans were sold by brokers on commission, some of whom were bank employees. The money was mostly to pay for home renovations or improvements. Instead of paying interest, the borrowers agreed to repay the capital and pay a proportion of the increase in the value of their home when they sold it, went into a care home or died.
One couple took out a £175,000 loan on their £750,000 home in Islington, north London. Twenty-five years later, when the widower wanted to downsize, he was told it was worth more than £2m and that he therefore owed £1.6m. There was not sufficient value left for him to move to a smaller property.
David Bowman, a solicitor at law firm Teacher Stern, which is representing the homeowners, says: “We believe this was an extortionate credit bargain and the relationship between the borrower and lender was unfair. If the court agrees it can rectify that unfairness by striking out the loans or modifying the product terms into something more just.”
Bowman said the Bank of Scotland sold two main types of shared appreciation mortgages. With the first type, the borrowers did not pay monthly interest and there was no fixed term. With no minimum age for the borrower so the interest could roll up 40 years and more.
Borrowers could borrow up to 25 per cent of the value of their homes. When the loan was repaid the borrower was expected to pay the original loan plus a proportion of the property’s appreciation that, expressed as a percentage, was three times the loan to value ratio of the original loan.
The second type allowed borrowers to borrow 75 per cent of the house’s value and they then paid an interest-only mortgage payment every month. The borrowers then had to repay the loan and a share of appreciation equivalent to the loan to value ratio of the original loan.
When the loans were taken out the interest was a small discount on the Bank of Scotland’s regular mortgage rates. But as Bank of England base rates fell below 6 per cent in February 1999 the mortgages were no longer competitive. Average house prices have increased by more than 350 per cent since the loans were first offered.
Teacher Stern has already represented 37 homeowners, who took out similar “shared appreciation” loans from Barclays in the 1990s. Barclays settled their claims out of court this year with a confidential agreement.
Bank of Scotland said: “Shared appreciation mortgages were a specialist type of mortgage available in 1997/8 which were either interest-free or offered at a lower rate of interest in return for a share of increased property value. We recommended that borrowers took financial advice to ensure that they understood the product, that it was suitable for their needs and all borrowers were advised by their own solicitor. We are unable to provide comment on individual cases due to ongoing litigation, but we do everything we reasonably can to help any customer facing financial hardship.”
Sarah Bourne, a client of Teacher Stern, is pursuing a case on behalf of her late father and her elderly mother. She said: “My father took out the shared appreciation loan of £62,500 with Bank of Scotland in 1997 on his Sevenoaks home. He . . . borrowed to help with living costs and to upgrade a very rundown old kitchen.” He also wanted to pay off the original £9,000 mortgage.
After the work was done the £225,000 house was revalued at £235,000 by BoS and is now worth £1.2m or more. Bourne says: “My mother would like to downsize to a smaller house in her hometown. If she sells for £1.2m after deducting £235,000 there would be a £965,000 appreciation and with the original £62,500 she would owe £786,250. That would leave her with £178,750, which is not enough to buy a new home.”
For homeowners today there is an alternative way to raise money from homes while continuing to live in them but there is still a need for caution. Equity release loans for the over-55s allow homeowners to borrow against the value of their homes without making any payments until they sell their homes, go into a care home or die.
Historically, these loans had a bad reputation because some homeowners ended up owing more than their homes were worth, but rules introduced in 2004 now do a better job of safeguarding borrowers.
Jim Boyd, chief executive of the Equity Release Council, said: “Shared appreciation mortgages, which were sold in the 1990s, should not be confused with equity release products, such as lifetime mortgages or home reversion plans, which are based on a different proposition and come with built-in consumer protections.”
Historically low mortgage rates and rising property prices today make equity release attractive, but any borrower must be sure they understand the details. As the sorry tale of the shared appreciation mortgages shows, problems can emerge years later.
Lindsay Cook is co-author of “Money Fight Club: Saving Money One Punch at a Time”, published by Harriman House. If you have a problem for the Money Mentor, email firstname.lastname@example.org