Topic 20

Question 1

What does each monthly payment of a capital repayment mortgage consist of?

Answer 1

A capital element (repaying the loan) and an interest element (interest on the outstanding balance).

Question 2

What happens if all monthly payments on a repayment mortgage are made on time?

Answer 2

The loan is guaranteed to be fully repaid by the end of the mortgage term.

Question 3

Why is the reduction in capital slow in the early years of a repayment mortgage?

Answer 3

Because most of the monthly payment initially covers interest.

Question 4

How do repayments change as the term progresses on a capital repayment mortgage?

Answer 4

More of each payment goes towards capital as the balance reduces and interest charges decrease.

Question 5

What happens if interest rates change on a repayment mortgage?

Answer 5

The lender recalculates the monthly payment to ensure the loan is still repaid by the end of the term.

Question 6

How can a borrower shorten the term of their capital repayment mortgage when rates decrease?

Answer 6

By maintaining their old higher payments, effectively making overpayments.

Question 7

What is an overpayment on a mortgage?

Answer 7

When a borrower voluntarily pays more than the required monthly amount, reducing the term or balance.

Question 8

What can lenders allow if a borrower struggles with payments short‑term?

Answer 8

Temporary reduced payments, which would extend the mortgage term.

Question 9

What are the main advantages of a capital repayment mortgage?

Answer 9

Debt reduces over time, loan guaranteed to be repaid, and no investment link.

Question 10

What is the main disadvantage of a capital repayment mortgage?

Answer 10

No built‑in life cover, which must be arranged separately (e.g., with decreasing term assurance).

Question 11

What do borrowers pay monthly on an interest‑only mortgage?

Answer 11

Interest only – the full capital remains outstanding until the end of the term.

Question 12

How is the monthly interest payment for an interest‑only mortgage calculated?

Answer 12

(Capital × interest rate) ÷ 12.

Question 13

How is the capital repaid at the end of an interest‑only mortgage?

Answer 13

In one lump sum, often using a repayment vehicle.

Question 14

What is a repayment vehicle in the context of interest‑only mortgages?

Answer 14

An investment or savings plan designed to build up funds to repay the capital at the end.

Question 15

Who can advise on a repayment vehicle for an interest‑only mortgage?

Answer 15

Only a suitably qualified financial adviser.

Question 16

Why might the total cost of an interest‑only mortgage be similar to a repayment mortgage?

Answer 16

Because the cost of the repayment vehicle is added to the monthly mortgage interest.

Question 17

Do repayment vehicles guarantee full repayment of the capital?

Answer 17

No, most do not guarantee sufficient performance to repay the debt in full.

Question 18

Why did interest‑only mortgages become unpopular?

Answer 18

Many endowment policies failed to meet targets, leaving borrowers with shortfalls.

Question 19

Can interest‑only mortgages be arranged without a repayment vehicle?

Answer 19

Yes, but subject to MCOB responsible lending rules, leaving the borrower responsible for repayment.

Question 20

What were the most common repayment vehicles used historically for interest‑only mortgages?

Answer 20

Low‑cost with‑profit and unit‑linked endowment policies, though stocks & shares ISAs are now more common.

Question 21

Why were interest‑only mortgages scrutinised in the Mortgage Market Review (MMR)?

Answer 21

Because many borrowers took them to cut monthly costs without adequate repayment vehicles, creating risks of not repaying capital at the end of the term.

Question 22

What do MCOB 4.7A.9 and 11.6.41 require for interest‑only mortgages?

Answer 22

Lenders must ensure borrowers demonstrate a clearly understood and ‘credible’ repayment strategy assessed to have the potential to repay the capital at the end of the term.

Question 23

Are lenders required to advise on the borrower’s repayment strategy for interest‑only mortgages?

Answer 23

No, lenders only need to assess that the strategy is credible but are not required to provide advice on it.

Question 24

Give examples of acceptable repayment strategies for interest‑only mortgages.

Answer 24

Regular payments into a savings or investment product, using regular bonus payments to reduce capital, or selling another property.

Question 25

Give examples of speculative strategies that are not acceptable for interest‑only mortgages.

Answer 25

Relying on house price inflation, potential inheritance, windfalls, or ad‑hoc investments.

Question 26

What does MCOB 11.6.49 require lenders to do during the term of an interest‑only mortgage?

Answer 26

Carry out at least one review to ensure the repayment strategy is still in place and still has potential to repay the capital.

Question 27

What is a ‘pure’ interest‑only mortgage?

Answer 27

An interest‑only mortgage with no repayment vehicle, where there is high certainty that the mortgage can be repaid, e.g., from the eventual sale of the mortgaged property with a low LTV.

Question 28

Can lenders assume house price inflation when assessing a ‘pure’ interest‑only mortgage?

Answer 28

No, they cannot include house price inflation in their calculations.

Question 29

In what case is pure interest‑only commonly accepted?

Answer 29

For business buy‑to‑let mortgages.

Question 30

Are consumer buy‑to‑let mortgages subject to the same rules as residential mortgages?

Answer 30

Yes, they are subject to the same affordability and suitability rules, though they can still be arranged on a pure interest‑only basis.

Question 31

What new category of interest‑only mortgage did the FCA introduce for older borrowers?

Answer 31

A pure interest‑only mortgage repayable on death or entry into residential care (not a lifetime mortgage), requiring affordability checks but no ongoing repayment reviews.

Question 32

What do MCOB rules allow for existing interest‑only borrowers who want to vary their terms?

Answer 32

They can vary the terms as long as the borrowing does not increase by more than the costs of changing the mortgage.

Question 33

How are high‑net‑worth customers treated under MCOB rules for interest‑only mortgages?

Answer 33

They are allowed more flexible treatment when applying for interest‑only mortgages.

Question 34

What is one major advantage of interest‑only mortgages?

Answer 34

They allow a wide variety of investment products to be used as repayment vehicles, which may perform well and potentially allow early repayment.

Question 35

What are two major disadvantages of interest‑only mortgages?

Answer 35

No capital is repaid during the term (debt does not reduce), and there is a significant risk that the repayment vehicle won’t produce enough capital to repay the mortgage.

Question 36

How does total interest payable on an interest‑only mortgage compare to a repayment mortgage?

Answer 36

It is much higher on an interest‑only mortgage.

Question 37

What does the term ‘rest’ refer to in mortgage interest calculations?

Answer 37

The frequency at which interest is calculated (daily rest, monthly rest, annual rest).

Question 38

How is interest calculated under the annual rest basis?

Answer 38

Interest is calculated at the start of the year (often 1 January) based on the balance at that date, ignoring repayments made during the year.

Question 39

Why does the annual rest method disadvantage borrowers?

Answer 39

They pay interest on money they no longer owe, and lump‑sum repayments don’t reduce interest until the next calculation date.

Question 40

How does the monthly rest basis benefit borrowers?

Answer 40

Interest is recalculated monthly, so repayments reduce the balance used to calculate the next month’s interest.

Question 41

How does the daily rest basis work?

Answer 41

Interest is calculated daily on the balance at the start of each day, meaning overpayments reduce interest immediately.

Question 42

Who benefits most from daily rest calculations?

Answer 42

Borrowers making ad‑hoc overpayments, as their repayments immediately reduce the interest charged.

Question 43

Does daily rest benefit borrowers making only regular monthly payments?

Answer 43

No, because the daily balance remains the same as the end‑of‑month balance.

Question 44

Which rest method typically results in the most interest being paid over the term?

Answer 44

Annual rest.

Question 45

Which rest method usually results in the least interest being paid?

Answer 45

Daily rest.

Question 46

What is the Annual Percentage Rate of Charge (APRC) and why was it introduced?

Answer 46

The APRC is a calculation introduced by the Mortgage Credit Directive (2016) to show the true cost of borrowing, enabling prospective borrowers to compare mortgages across lenders.

Question 47

How does the APRC differ from the nominal (flat) interest rate?

Answer 47

The APRC includes interest plus some costs (e.g., arrangement fees, valuation fees) spread across the mortgage term, making it usually higher than the nominal flat rate.

Question 48

What is the Total Charge for Credit (TCC)?

Answer 48

The TCC is the total cost of borrowing, including interest and certain fees (arrangement, administration, valuation, compulsory insurance, etc.), which is then converted into the APRC.

Question 49

Which costs are excluded from the APRC/TCC calculation?

Answer 49

Excluded costs are early repayment charges, endowment or other life assurance premiums, and charges due to borrower default.

Question 50

What assumptions must be made when calculating the APRC?

Answer 50

The starting interest rate applies for the full term All payments are made on time No life assurance premiums are included The mortgage runs for its full term

Question 51

When must the APRC be shown in advertisements?

Answer 51

If a mortgage advertisement shows a flat interest rate, it must also display the APRC more prominently. If no flat rate is shown, an APRC is not required.

Question 52

What is the second APRC and when is it required?

Answer 52

For MCD-regulated mortgages with variable rates, a second APRC must be shown in the ESIS or KFI top-up, estimating the cost if rates increase.

Question 53

How is the second APRC calculated for capped rate mortgages?

Answer 53

It assumes the rate rises to the capped limit at the earliest possible point.

Question 54

How is the second APRC calculated for uncapped variable-rate mortgages?

Answer 54

It assumes the product’s highest borrowing rate in the past 20 years.

Question 55

How is the second APRC calculated for tracker or index-linked mortgages?

Answer 55

It assumes the highest rate of the relevant external index/benchmark over the last 20 years.

Question 56

What must lenders use for the second APRC if there is no external reference rate?

Answer 56

They must use the highest benchmark rate specified by the FCA, another competent authority, or the European Banking Authority.