Bank stops interest-only mortgages

The squeeze on availability of interest-only mortgages has continued with a major lender withdrawing its entire range of products.

The Co-operative Bank will only offer mortgages on a capital and repayment basis from next Tuesday, although this will not affect the 60,000 homeowners with average balances of £77,000 who already have interest-only mortgages.

However, these borrowers could struggle to find another interest-only deal as most banks are tightening up their lending on such mortgages, which allow borrowers to only pay off the capital when the mortgage term ends, enabling them to maximise their initial borrowing capacity.

The Financial Services Authority recently warned an estimated 1.5 million such loans worth around £120 billion are due for repayment in the next decade. It wants to see interest-only mortgages generally only offered in future where there is a credible plan to repay the capital, and borrowers cannot just rely on hopes that house prices will rise.

The Co-op said house price weakness and uncertainty about the economic climate had resulted in a "rapid" decline in demand for interest-only loans. Currently fewer than 10% of new mortgage customers at the Co-op are taking out mortgages on an interest-only basis, compared with almost 25% in 2007.

The changes outlined will also apply to mortgages offered through Britannia and residential mortgages offered through Platform, the dedicated intermediary lender for the Co-operative Bank.

James Hillon, the Co-op's head of mortgages, said that existing customers with interest-only mortgages will be able to port their deals if they decide to move house and extend the term of their loan. But if they need to borrow more money this will have to be on a capital and repayment basis.

He said the bank will not charge a fee for those who want to switch from an interest-only deal to a repayment one.

Mr Hillon added: "What we have seen in house price drops over the last four or five years has in itself given rise to a dawning realisation that you can't just rely on a rising appreciation in your home. That has driven the reduction in the volume (of people taking out interest-only mortgages) that we've seen."

Many lenders have slashed the amount that can be borrowed on an interest-only mortgage to just 50% of the home's value. More than a million homeowners have also seen their mortgage repayments rise after several lenders announced rate rises, blaming the weak economy and the increased cost of funding a mortgage.