Mortgage payment holiday – yay or nay?

A number of mortgage lenders are taking about doing ‘their bit’ to help the individuals affected by the economic outcomes of the pandemic, by offering a mortgage holiday. Let’s talk about it.

Firstly, at least in the UK where I live, mortgage holiday is written into standard terms of mortgage from any bigger and most smaller lenders. So my sceptical self will say that majority of the lenders are doing their bit by reminding any mortgage customers that the option exists, rather than doing something new. Secondly, mortgage providers regulated by the FCA (Financial Conduct Authority) have two important reasons to give you that reminder – one, FCA told them to get their A game on with mortgage payment holidays, and two, given that the property market is stagnant, who’s going to buy all those repossessed houses? This is aside from potential PR damage should a lender come across as a predatory one. Another good thing about the UK is that the consumer finance market for mortgages is heavily regulated and largely pro-consumer. Sub-prime products are being actively weeded out to prevent another 2008.

With that long intro over, let’s get into the actual article.

Disclaimer: I am not a financial adviser, I am a blogger. The information below does not constitute financial advice. Please use your brain and consult professionals when making financial decisions.

Mortgage payment holiday explained

Mortgage payment holiday, in short is a period of time, of usually up to 3 months, during which you are permitted to not make any payments on your mortgage. This period must be agreed with your lender before you stop making payments. While not paying your mortgage in normal circumstances would negatively impact your credit score and carry other legal consequences, mortgage payment holiday does not reflect on your credit score and does not put your property at a risk of reposession. The FCA has agreed with a number of mortgage lenders to extend the maximum holiday period for up to 12 months.

Key conditions

In order to be able to agree payment holiday, majority of lenders will have a specific set of circumstances that you are required to meet. These include the length of relationship you have with them (in example Nationwide offers holidays for deals taken before March 2010 – yeas, 2010 and not 2020) and temporary changes in your financial circumstances (such as job loss due to Covid-19 economical impact, maternity period for some customers, in some cases death of one or more of the named borrowers etc).

To find out if your loan is eligible for a payment holiday you will need to speak to your lender. If your income has been negatively impacted by novel coronavirus, the chances are your lender will want to help you.

The outright cost

It’s free, sort of. Mortgage payment holiday does not carry any fees. If your lender asks for a fee, please consider switching to another provider as soon as reasonably possible.

However, while there are no outright fees associated with the payment break, there is a cost in form of interest. Most residential mortgages accrue interest on a daily basis. The interest is also capitalised on the daily basis. While you might have heard about a distinction, in particular in the US, between your interest and the principal, for consumer mortgages it’s just not really a thing in the UK. In short, if today you owe £190,000 and your annual interest is 1.89%, tomorrow you will owe £190,009.81. Day after tomorrow the interest will be calculated on the higher figure and added to overall owed, meaning that your debt increases to £190,019.62. Within a span of a month your debt will continue to grow and will reach £190,304.39*.

What to consider

In a situation where you have no income and no savings, this scheme could be the thing which makes the difference between keeping the roof over your head or not. However, in a situation where your income has been impacted but you can still meet this cost, there are other scenarios where this might be useful.

To understand how this scheme can be useful, consider cost of capital. Let’s say instead of paying £1000 per month into your mortgage, you will hold on to that money over the period of 1 month. Instead of spending it (because we established, your income has been impacted but you’re not living hand to mouth), you opt to invest it either into some sort of index fund or even into your own fledgling business. Would you ever be able to get a small personal loan at a rate of 1.89% per annum? Maybe. Would you be able to start a small business with £1000 and recoup that loss of income? Also maybe.

If you’re not investing and don’t have an entrepreneurial bone in your body, would £1000 stand between you and a major financial issue**, if you had it at hand instead of tied up in your home? Very likely, especially in an absence of an emergency fund.

On the flip side, are you comfortable with your home loan growing steadily while you’re focusing on something else?

There are as many scenarios as there are mortgage customers. While I cannot tell you whether the mortgage payment holiday is the thing to do in your situation, I will say that you should look at your financial situation carefully and consider all pros and cons as well as long-term impact.

The long term impact

The last thing to cover is the actual impact of taking on a 1-month mortgage payment holiday over the term of your mortgage.

The example figures are as such:

  • Your current balance is £190,000
  • Your monthly payment is £1000
  • Your interest is 1.89% per annum
  • You chose to take 31 days payment holiday equating to your loan increasing by £304.39 without a payment to cover it (in reality this would be more, depending on the frequency of your payments)

What happens with this additional amount? As with any loan, it continues to compound. The result of adding £304.39 to your loan in 31 days from now on translates to roughtly 4.4 months of additional repayments by the time you are done with your mortgage (roughly 6995 days from today), assuming that you will not make any overpayments throughout the term of your mortgage. Yes, compound interest is in fact nuts.

While I think the payment holiday scheme is needed and will be a lifesaver for many, it is also a serious decision with long term consequences and should not be taken lightly.

I hope this blog post was somewhat useful and that you are keeping safe!

*calculation based on 31 day month, daily interest calculated based on 366 days per year (2020 is a leap year)

**major financial issues include anything from urgent home repairs to death in the family – define it with your own measure please

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