If you had asked this question just a few months ago you would have been declared mad, but in Scotland there is a growing move towards local authority backed loans which could, if administered correctly, offer at least some respite to the Scottish property market which having held up well initially has now started to show signs of severe weakness. But is it right for councils to move into the highly competitive mortgage market? Is it fair for them to take business away from commercial lenders?
We are currently living in an age where we have seen the government offer to take stakes in commercial banks, have seen the authorities take over two commercial banks completely (Northern Rock and Bradford and Bingley) so we are not dealing with normal times here. But how would it work and who would be able to take advantage?
History of local authority mortgages
It may surprise many to learn that Edinburgh City council entered the mortgage market back in the 1970s when property prices in the City were decimated by an economic slowdown. While it would be wrong to suggest that the slowdown had been on the scale we are seeing today it was not your normal property slump and unorthodox action had to be taken.
Many people may not be aware but local councils are allowed to make use of what is known as a ‘prudential borrowing’ facility which allows them to borrow at preferential rates which are only slightly higher than those available to the UK government. Using this facility it would be possible to offer mortgage rates which are substantially lower than those available in the commercial market where promised rate cuts have yet to appear.
However, for those about to contact their local councillor about a mortgage from their council, the scheme in Edinburgh was ended in the 1990s due to a lack of demand but even to this day the authorities are still owed £500,000 from 65 outstanding loans from the period.
Benefits of a local authority mortgage scheme
The benefits of such a mortgage scheme are obvious in the fact that the local authorities will have access to substantially cheaper finance and they will not be in the market to make obscene returns. This will ensure that not only will the rates be competitive but they are likely to be substantially less than what is on offer at the moment. It is worth noting that such a scheme would not be available to the wider market, only first time buyers and those at the very bottom of the property ladder.
However, the main point of such a scheme is to bring new blood into the market with affordable finance which would then see more homes freed up and those who are looking to move would have more willing buyers than at the moment. It would not be the ultimate answer but it would certainly give the market a boost which should hopefully benefit commercial mortgage lenders.
While it may be worse in other areas of Scotland, there is always a need for social housing in places such as Edinburgh and these schemes can be very costly. By offering low rate mortgages, which would be paid back in the fullness of time, this would take away the cost of such schemes, increase the number of occupier owned homes in the City and reduce the need for additional spending in this area – saving councils money in the long term.
Drawbacks of a local authority mortgage scheme
While for those who benefit from a possible local authority mortgage scheme there are very few drawbacks (apart from the fact they will not be able to take out 100% mortgages and may have to agree to a savings scheme at the same time), it could cause serious unrest amongst those who do not benefit as some people may still lose their homes while others climb onto the ladder at the tax payers expense.
While housing associations and local authorities are exempt from mortgage market regulations there is a hope and expectation that they will abide by at least the spirit of the regulations. There is also the cost of actually administering these schemes and ensuring that correct advice is given to potential mortgage recipients. Unless this is either outsourced or some kind of formal training is instigated there could be major issues on the administration front.
Conflict with the commercial mortgage market is one issue which will need to be resolved at an early stage in order not to wreck what could eventually be the turning point for the Scottish property market. If undue pressure is put on banks and other mortgage providers to reduce their rates to unprofitable levels this could undo some of the good work on the banking sector front of late.
One potential problem which is sure to catch the eye of the experts is the potential for the council to create something of a false market in Edinburgh by providing mortgages at sub-market rates. While the added interest could eventually kick start the market it could also see some house prices remaining unusually high because of the service which the council is offering.
While there are many pros and cons of such a mortgage scheme all of these factors need to be considered in light of the worst conditions in the Scottish property market for a number of decades. We are sure to the see the Council of Mortgage Lenders lodge their concerns but in the long run the scheme should help local property and create more business for commercial lenders before and after the scheme ends.
However, on the flip side there is a need to ensure that the mortgage scheme hits those who actually need it and is not abused by others in the market. We would also need to know how long the scheme would remain open to new customers, the level at which mortgage rates would be set, the risks involved and the cost of implementing and administering the scheme.