Lenders impose more stringent checks on borrowers

Borrowers could see their credit card limits cut and mortgage choice dwindle even if they have spotless credit records, as lenders seek to single out who might default in future.

Last week, Egg withdrew the cards of 161,000 customers it considered an unduly high risk. A proportion of these customers had never missed a payment or exceeded their credit limit. But additional factors – an increase in debt elsewhere, a missed payment on another card, loan or bill, or simply the fact that the borrower was rapidly approaching their credit limit – set off alarm bells at the bank.

Egg is one of many lenders paying closer attention to borrowers’ ability to service debt. Banks and credit card providers are increasingly looking at future affordability of credit, rather than just past credit reports.

This week’s quarter-point interest rate cut should provide some relief for mortgage borrowers. But more thorough risk assessments by lenders mean borrowers will still need a squeaky clean credit record, and proof that they can comfortably afford the debt in future.

Lenders are increasingly judging risk according to an individual’s complete profile. They are looking at how many lines of credit they have, how much they already owe, how close they are to existing limits elsewhere and any potential increase in outgoings, to gauge how likely they are to fall into difficulty further down the line.

“People can misunderstand how risk is calculated,” says Peter Brooker, a spokesman at Experian, the credit checking agency. “Just because they have unblemished credit records does not mean they are viewed as a good risk by lenders.”

Even if borrowers are seen as a good risk when they apply for credit or have their status reviewed, if they extend their debt by another £5,000 or £10,000 with a new credit card or by increasing their mortgage, this could tip them over the edge of affordability.

“Someone might have five credit cards and be servicing them perfectly well, but if they are approaching the credit limit on several of them then their risk profile could still be quite high,” adds Brooker.

Barclaycard says it will reduce credit limits if it feels customers are becoming overstretched. It may also restrict a cardholder’s ability to withdraw cash as this is a sign they may be running into difficulty, or using one card to pay off another.

Other card providers have been cutting limits for existing customers if they miss a payment or their credit record deteriorates. In 2006, Halifax reduced credit limits for 500,000 customers. HSBC is reviewing customers more regularly and is focusing more on responsible lending.

HSBC also introduced an annual review of customers’ overdrafts last year to identify those who might be having trouble managing their finances. It looks for customers making use of their full overdraft or those who are in the red for the majority of the time.

Banks say the shift in how they assess a borrower’s risk profile has evolved over the past couple of years. They now have much greater access to data about spending patterns. While two years ago they may have just been aware of any arrears, they now have a complete picture of borrowers’ expenditure, income, whether they pay just the minimum each month or more, and any recent applications for credit.

Rejection rates, although they can now be higher than one in two, have not changed significantly over the past year. However credit reference agencies say that lenders are conducting more of this analysis, and that while they were already looking at overall affordability, the credit crunch has given them more reason to do so. Mortgage borrowers can expect similarly stringent tests.

Andrew Montlake at mortgage broker, Cobalt Capital, says for people with good deposits and relatively low income multiples, mortgages are still “flying off shelves”. But borrowers with a small or no deposit or who want to stretch the income multiple, can expect lenders to be more prudent. “It is only really more difficult as lenders are asking more questions,” says Montlake.

City workers, for example, are having to provide specific details about the sector they work in, so lenders can assess how they might be affected by the credit crunch. Other brokers say higher earners are increasingly being rejected by lenders, especially for extensions to existing loans.

Savills Private Finance says more borrowers have approached it from the prime residential, buy-to-let and commercial areas, having struggled to obtain funding from their usual lender. “An increasing number of wealthy homeowners are in for a shock when they come to remortgage as lenders are looking more closely at applications and being more wary of high loan-to-values,” says Melanie Bien, director at Savills.

“Anyone with a blip on their credit file – perhaps for missing a mortgage payment in the past – or who is looking to borrow more than 80 per cent loan-to-value on loans above £1m are finding it tougher to get access to the most competitive rates.”

One concern for mortgage lenders is rising home repossessions. The Council of Mortgage Lenders yesterday revealed that 27,100 homes were repossessed last year. This was below expectations – the CML forecast 30,000 – but was nonetheless up from 22,400 in 2006.

Repossessions are expected to rise faster this year, to 45,000. Most of these are expected to come from homeowners with adverse credit records, who have had a significant rise in borrowing costs in recent months. But repossessions are not exclusively a problem for subprime borrowers.

A survey this week found that lenders thought first-time buyers with high loan-to-values and buy-to-let investors who had suffered void periods were the most vulnerable to repossession.

Paul Walshe, head of lender services at Moore Blatch, the law firm that conducted the research, expected repossessions of buy-to-let properties to rise faster than those of owner-occupied properties this year.

One problem area is landlords who have bought overvalued new-build flats in city centres, failed to secure tenants and have been unable to afford the mortgage themselves. A glut of these properties has meant they have been hard to sell.