Are government loans the answer for first-time buyers?

BY Ned Browne

1st Jan 2015 Property

Are government loans the answer for first-time buyers?
Thinking of buying your own home? We investigate the pros and cons of the government’s equity loan scheme.  

What is the equity loan scheme?

The equity loan scheme is one of the government’s flagship Help to Buy flagship policies. In a nutshell, it allows buyers to borrow more money to get onto or move up the property ladder.
The government lends you up to 20 per cent of the cost of your newly-built home (in Greater London the government will lend you up to 40 per cent).
You will need at least a five per cent cash deposit—the rest being made up by a commercial mortgage of up to 75 per cent of the purchase price. The property must cost no more than £600,000.
The government loan is interest-free for the first five years of you owning the property—although a monthly management fee of £1 is levied through the time of the loan. After five years the interest rate rises to 1.75 per cent. 
Thereafter, it will rise each year after that by the increase (if any) in the Retail Prices Index (RPI) plus 1 per cent. The loan itself is repayable after 25 years or on the sale of the property, whichever is earlier.

How do I find an eligible property?

All equity loan properties are listed online by region. 

What’s the catch?

Following the purchase you can make voluntary part repayments ("staircasing" or a full repayment) of the Help to Buy loan at the “prevailing market value”—in other words, if your property has risen by 20 per cent in value, the loan will have too. Also, the amount you pay at any given time might be high, as the minimum voluntary repayment is 10 per cent of the market value.
If you sell your home, you must repay the same percentage of the proceeds of the sale to the government as the initial equity loan (i.e. if you received an equity loan for 20 per cent of the purchase price of your home, you must repay 20 per cent of the proceeds of the future sale).

Balancing act

Given the “catches” listed above, anyone using this scheme needs to be fleet of foot. At first glance, it makes no sense to pay off the government loan before your commercial loan, especially in the first five years when it’s interest-free. 
However, perversely, this might not be the case. If prices are rising rapidly, paying down the equity loan first could be the best option. Make sure you regularly review and always do the maths.

Other legalities

You won’t be able to sublet this home and you must not own any other property at the time of purchase.
For some unknown reason, the equity loan schemes require that the owner has a main mortgage of at least 25 per cent of the purchase price. If anyone can tell me why, I would love to know.
Buyers cannot use the scheme if they require a main mortgage that’s more than 4.5 times their household income.
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*Please note: This scheme is available in England only. The Scottish Government, Welsh Government and Northern Ireland Housing Executive run similar schemes—Google them for details
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