Interest rates are on the way up – again with another increase from the European Central Bank, this time by a quarter point. But which types of borrowers are most exposed?
There has been a lot of discussion about this, calls from the Opposition for mortgage holders to be helped and examples of nonbank lenders charging rates of 7 per cent or 8 per cent, often to borrowers who have had difficulty over the years keeping up with repayments.
New Central Bank research crunches the data and comes up with some clear results. Higher interest rates are having a very different impact on various types of borrowers – but around one in five mortgage holders are being seriously hit.
There are more than 700,000 mortgage accounts for primary dwelling homes, so some 125,000 - 140,000 of these loans could see particularly significant increases. Who are they and why is this happening?
Let’s look at the Central Bank research, which mainly covers the 84 per cent of loans held by Irish banks – and not those owned by nonbank lenders, though we will return to those, too.
1. The most exposed – a brief history lesson
Those most exposed to higher interest rates – in terms of facing increases in their repayments – are those on tracker mortgages, which adjust automatically with ECB rates.
Almost all of these loans were arranged before 2008 – the average date of a tracker is 2006 and the average year or maturity is 2034. Close to one in four were non-performing at some stage – many of the borrowers got caught in negative equity after the crash and many suffered from lower incomes, often due to unemployment.
It is here we need to look for those most immediately vulnerable – along with many who were in trouble and had their loans sold to nonbank lenders, often being restructured along with the way. Most of them, too, were boom-time buyers.
2. How the hit has come
To illustrate what has happened, the Central Bank looks at the position of borrowers in June 2022, just before the rates rises started, and the end of the year. In June there were two distinct groups, with tracker mortgage holders paying rates of between 0.5 and 1.5 per cent and other variable rate loans priced between 2.25 and 4.75 per cent, with an average of 3 per cent.
By the end of the year the gap had closed – tracker rates had gone up to an average of 3.3 per cent while non-tracker variable rates had hardly moved. In other words tracker holders were now paying roughly the same as other borrowers, having benefited from lower rates for a prolonged period.
There have been further ECB and market rate moves since, but this " catching up” by tracker holders is an interesting point. Some borrowers have moved to protect themselves during the period of low rates, at least for a time. Of the 293,000 borrowers with non-tracker variable mortgages at the end of 2018. a quarter had moved to a fixed rate by the end of 2022, with a big surge in switchers as interest rates started to go up in the middle of last year.
3. Who is most exposed?
Looking at a total increase of 4.25 percentage points in ECB rates by the end of this year – which looks to be roughly where we might be – the average repayment rise across all mortgage holders with Irish banks would be 16.4 per cent.
But there is a big gap between those least hit and those most affected. Around 40 per cent of borrowers, mainly those on fixed interest rates, will be largely unaffected. At the far end, the group most exposed would see average repayments increase by around 50 per cent.
Not surprisingly those most exposed are largely tracker mortgage holders, while those on other variable rates are also in the firing line, assuming that more of the increases are passed on to this group as the year goes on.
Not surprisingly, those in the most exposed group have the largest outstanding borrowings. The average outstanding loan in the most exposed 20 per cent is €225,000.
On average this most exposed group has 19 years left on their mortgage. Looking at interest rate increases of 3.5 percentage points – what has happened before today’s quarter point rise, the research calculates that the average repayment of the worst affected group will increase from €951 per month to €1,356. By the end of the year this will rise further, quite likely close to monthly repayments of €1,500. Clearly there will be a smaller number within this group facing even bigger increases.
In terms of exposure, as well as the type of loan and the outstanding balance, another key factor is years of the mortgage remaining – those with 8 years outstanding are much less exposed, for example.
A key insight is that while tracker holders are most exposed, what is effectively happening is that monthly repayments are equalising across different groups. Tracker holders had done well for years, but will now start to pay at similar average rates to other groups, which are a mix of those on variable rates and those who have locked in. This is emerging in the debate about what help, if any, should be directed by the State towards mortgage holders. Is it fair to direct support specifically at those now facing the biggest increases, even though in cash terms they will not be paying more than the average in the new interest rate regime?
The most exposed took out their mortgages between 2004 and 2008, the period of loosest credit conditions in the run up to the crash. Those who took loans out after the crash are much more likely to be on fixed rates, many extended into new fixed periods over the years. A smaller group on interest only loans – which would have been restructured – are also among those most exposed.
What an interest rate rise means for you
And there is another, angle, too. Those now on fixed rates will face the full impact of interest rate rises when they come to refinance. This will be significant in particular for those who bought in recent years with bigger mortgages. Around one fifth of loans (by value) will see fixed rate loan terms ending this year or next, exposing these borrowers to a once-off jump in interest rates.
Separate Central Bank research see some rise in mortgage defaults as being likely, though nothing like the scale of the financial crash. The default rate could rise from 8 per cent of mortgages to close to 10 per cent, though it could go a bit higher depending on circumstances.
4. A final distressed group
A group of borrowers who have loans with nonbank lenders – sold on by Irish banks, including Permanent TSB – are also among the worst exposed.
Many of these loans are managed by mortgage service companies such as Pepper, who have passed on the full extent of ECB increases to those on variable rates. Some are now paying rates of over 8 per cent.
The Central Bank has estimated that of the 100,000 of mortgages owned by funds, some 38,000 are on standard variable rates and at the start of this year some 18,000 were already paying at rates of 5 per cent or more - and these will have increased subsequently. A lot of these borrowers were previously in difficulty and were already on relatively high variable rates – due to poor credit histories many are unable to move to other lenders. In a recent submission to the Central Bank, Minister for Finance, Michael McGrath, said that moves are needed to ensure that these borrowers can switch to mainstream lenders.
Like the most exposed tracker mortgage holders, most of these borrowers would have bought in the run up to the financial crash, the legacy of which continues to cast a long shadow over the mortgage market.
