First-time buyers should take avoiding action now

David Kuo, Head of Personal Finance at Fool.co.uk, says: “First-time buyers who have taken out interest-only mortgages should heed the warning by the Bank of England over tightening credit conditions.

“In 2006, one in four home loans (28%) taken out by first-time buyers were interest-only mortgages. This is double the number of interest-only mortgages taken out in 2002. Meanwhile the number of first-time buyers who took out repayment mortgages fell from 88% in 2002 to 67% in 2006.

“The shift to interest-only mortgages is not unexpected, given the increasingly onerous cost of buying a first home. However, first-time buyers who have made this choice should try to reduce the size of their loan quickly.

“In future, lenders may tighten the credit-scoring criteria and choose to reduce the maximum loan to value (LTV). This will put borrowers who have taken out 90% mortgages at risk, especially if the value of their homes decline sharply when they remortgage.

“However, most lenders will allow borrowers, even those on interest-only mortgages, to make overpayments. And every £1,000 of overpayment will not only reduce the outstanding loan by the same amount, but also slash the interest bill by £1,500 over twenty-five years.

“The Bank of England’s Inflation Report should set alarms ringing in the ears of vulnerable first-time buyers. Borrowers can choose to hit the snooze button if they wish. But a better idea is to get going and take action now before they get kicked out of bed by their lenders.”