The Bank of England has warned that up to half a million families would fall into mortgage arrears once it started to raise interest rates from their emergency level of 0.5%.
Households running into difficulties could increase by a third to around 480,000 in the event of a two-percentage-point increase in the cost of borrowing, the Bank has stated.
However, the Bank believes the number of borrowers struggling to pay their home loans would remain below the levels of the early 1990s – provided incomes rose alongside interest rates.
“Higher interest rates will increase financial pressure on households with high levels of debt,” said the Bank’s Quarterly Bulletin as reported by The Guardian.
“The percentage of households with high debt-servicing ratios, who would be most at risk of financial distress, is not expected to exceed previous peaks given the likely paths of interest rates and income.
“But developments in incomes for the households who are potentially most vulnerable will be an important determinant of the extent to which financial distress does increase.”
Interest rates have remained at 0.5% – the lowest in the Bank’s 320-year history – since March 2009 and cheap borrowing costs have made it easier for households with large home loans to keep up payments on their mortgages.
The Bank is exploring the impact of tighter policy on households where more than 40% of income is spent on mortgage repayments, since these housebuyers are most likely to fall into arrears.
“Assuming a 10% increase in income for all households, a two-percentage-point rise in mortgage interest rates would likely raise the proportion of mortgagors with a debt service ratio (DSR) of at least 40% from its current level of 4% to about 6%,” the Quarterly Bulletin states.
“The number of UK households in this vulnerable category would increase from about 360,000 to 480,000. But the impact would be more severe in a second, less likely, scenario where there was assumed to be no increases in incomes.”
The Bank said official data showed that the ratio of household debt to income had fallen back from its peak in early 2009.
Debt-to-income ratio held steady at about 80% during the 1990s, rose steadily in the 2000s to peak at just over 130% and has since dropped to just over 110%.