This new property investor will help you into your own home, but there's a considerable catch.
Nowadays, first-time buyers and those looking to climb the housing ladder face two big problems.
First, despite some recent weakness, house prices remain high in historic terms. Indeed, the average UK home costs over £160,000, or around five times the average household income.
Second, without substantial deposits, potential homebuyers struggle to get mortgages. To access the lowest loan rates, applicants need to stump up a quarter (25%) to two-fifths (40%) of the purchase price, either as a deposit or in equity (existing housing wealth).
However, if you don't have an ample deposit and can't borrow from the Bank of Mum and Dad, then where can you turn?
Get 20% towards your home
Monday, 1 October saw the launch of Castle Trust, a new mortgage lender with a difference.
Instead of simply lending you money to buy a home, Castle Trust will invest as a 'partner' in your property. If you can raise a deposit of at least a fifth (20%), then the firm will give you an interest-free loan for a further 20%. You won’t have to make any monthly repayments To Castle Trust during the course of this loan.
Despite being a new venture, Castle Trust is headed by Sir Callum McCarthy, chairman of City watchdog the Financial Services Authority (FSA) until September 2008. Also, it is backed by a $105 million (£65 million) investment from US private-equity investor JC Flowers -- a major investor in Northern Rock before the failed bank was nationalised.
Too good to be true?
As with all financial contracts, there's a catch.
Castle Trust's interest-free loans are actually 'shared appreciation' or 'shared equity' mortgages. Thus, when Castle Trust customers repay their mortgages or move home, they must hand over two-fifths (40%) of any sale profit to the lender.
In other words, in return for a loan of 20% of a home's value, Castle Trust gets 40% of all future increases in value until the property is sold or the loan is repaid. On the other hand, if the property is sold at a loss, then Castle Trust bears only 20% of this loss.
Therefore, all else being equal, Castle Trust's upside is twice its downside. In effect, this loss of future gains is the price that hard-pressed homebuyers pay for getting interest-loans from Castle Trust.
Mad mortgages
Personally, I am not a big fan of shared-appreciation mortgages, because they acquired an awful reputation in the mid-Nineties for making excessive profits at the expense of (mostly elderly) homeowners.
Also, let me show you the possible cost of such a home loan, using a simple example.
Let's say you buy a home for £150,000, using a deposit of £30,000 (20%), a mainstream mortgage of £90,000 (60%) and the remaining £30,000 (20%) from Castle Trust. Now let's assume that you've bought wisely, redeveloped and maintained your new home, and then sold it a decade later for double what you paid for it - £300,000, leaving a £150,000 profit.
Here's how this profit is distributed:
1. You get £120,000, which is your original deposit of £30,000 plus a profit of £90,000 (60% of the £150,000 gain).
2. Castle Trust gets £90,000, which is its original loan of £30,000 plus a profit of £60,000 (40% of the £150,000 gain).
In other words, Castle Trust triples its money in 10 years, which is a handsome return of 11.6% a year -- vastly more than you would pay to borrow this sum using a conventional home loan. But Castle Trust gives you the benefit for any home improvements or extensions paid for, so they don’t share in the value you have added to your own home.
In addition, Britain's big banks seem wary of this scheme, as not one has yet signed up to work with Castle Trust. Thus, if you do take this lender as a partner, then you may find it extremely difficult to secure your main mortgage at a competitive rate.
Lastly, Castle Trust will not lend to anyone over the age of 55, so this scheme excludes older homebuyers and movers.
Blowing bubbles
In summary, while Castle Trust's scheme may be fairly original, it won't work for most potential homebuyers. Worse still, if house prices do start rising steeply again, then shared-appreciation buyers will lose a large chunk of their gains to Castle Trust. On the other hand, if prices continue to flat line or fall, then Castle Trust stands to suffer.
Finally, Castle Trust claims that it one of its aims is "helping to breathe some much needed life into the mortgage market". If this involves propping up prices and blowing yet more air into another housing bubble, then we will all suffer. Surely lower prices are a far better way to get the housing market moving again?
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