In 2014 the Financial Policy Committee (FPC) introduced two Recommendations to guard against a loosening in mortgage underwriting standards and a material increase in household indebtedness that could in turn amplify an economic downturn and so increase financial stability risks.
The Recommendations introduced were the LTI ‘flow limit’, which limits the number of mortgages that can be extended at loan to income (LTI) ratios at or greater than 4.5, and the ‘affordability test’, which specifies a stress interest rate for lenders when assessing prospective borrowers’ ability to repay a mortgage.
The FPC has regularly reviewed these Recommendations. In its latest review, published in the December 2021 Financial Stability Report, the committee considered a scenario of rapidly rising house prices where, without any policy measures, financial stability risks would increase sharply. The FPC’s analysis found that both of its Recommendations on their own would materially mitigate the increase in risks. But the LTI flow limit is likely to play a stronger role than the affordability test in guarding against an increase in aggregate household indebtedness and the number of highly indebted households.
The FPC judged that the LTI flow limit, without the affordability test Recommendation, but alongside the wider assessment of affordability required by the FCA’s Mortgage Conduct of Business (MCOB) framework, ought to deliver an appropriate level of resilience to the UK financial system, but in a simpler, more predictable and more proportionate way.
Therefore, as announced in the December 2021 Financial Stability Report, the Committee decided to maintain the LTI flow limit Recommendation and to consult on withdrawing its affordability test Recommendation.
In the consultation, published today, the FPC is seeking the views of interested parties on the proposal to withdraw the affordability test. The consultation, in particular, asks the following questions:
- What impact is the affordability test Recommendation currently having on the mortgage market?
- How would lenders and the mortgage market respond if the Recommendation were withdrawn?
- What effect withdrawing the Recommendation may have on the housing market as a whole and on particular segments of the market?
The consultation will close on 6 May 2022 after which the responses will be considered by the FPC. In the event of deciding to withdraw its affordability test, the FPC would expect to formally withdraw the affordability test Recommendation within 12 months of making the decision.