Does it help to try Help to Buy ISAs?

Help to Buy has been in the headlines recently. A National Audit Office report said that people were borrowing money from the government scheme when they didn’t need to, which has pushed up house prices and made it more difficult for some people to get on the housing ladder.

Let’s look beyond the headlines at the scheme and its implications.

What is Help to Buy?

In 2013 the housing market was relatively stagnant, with only around 9% price growth nationally over the preceding five years. That’s a concern to the government because the housing market is a barometer of the wider economy.

At the same time, wages had largely been frozen since the financial crisis, and people were finding it increasingly difficult to afford property.

The government wanted to stimulate the property market, which is where Help to Buy came in.

The scheme provides a loan to people looking to buy a new-build home with a value of up to £600,000. It doesn’t matter if you’re a first-time buyer or not; it only matters that the home is a new build.

The amount the buyer borrows is fixed at 20% of the purchase price if the home is outside London, or 40% of the value if it’s in the capital.

A couple of rules are involved:

• The buyer must have 5% deposit of their own money
• They must take out a mortgage for the remaining 75% (or 55% in London) with an approved lender on the scheme (but just about all major mortgage providers are approved)

As an example, if you wanted to use Help to Buy to purchase a £200,000 home:

• You’d need £10,000 of your own money as a deposit
• You’d borrow £40,000 from the government’s Help to Buy administrator, Homes England
• You’d get a mortgage for the remaining £150,000.

The terms of Help to Buy mean that you effectively only own 80% of the home (60% in London), with Homes England owning the other 20% (40% in London).

And that matters: when you sell, you must pay back 20% or 40% of the value at the time of sale. House prices generally go up, so this is how the scheme funds itself.

In the example above, if you sold the house five years later for £220,000, you would have to pay back £44,000 to Homes England. If it shot up in value to £250,000, you would pay back £50,000.

Overall, Help to Buy is a way to bolster the money you have for a deposit on a home purchase. It’s hard to save a deposit while you rent, so this was seen as a way for the government to help would-be buyers onto the housing ladder.

Click here to access my Lifetime ISA vs Help to Buy ISA comparison guide

Why has it been in the news?

The NAO report said that Help to Buy has not necessarily achieved its objectives, claiming that the majority of people who have used the scheme could have afforded a home anyway.

It did add a caveat that perhaps the scheme helped them buy the home they wanted, i.e. a larger or ‘nicer’ one than they could have afforded on their own.

One of the chief concerns is that Help to Buy has helped inflate prices of new builds, boosting the profits of the companies building them, because they know people can afford a little more. Most infamously, Persimmon chief executive Jeff Fairburn was paid a £75m bonus in 2018, with the housebuilder being one of the major beneficiaries of Help to Buy.

A second concern is that wealthy people, including existing homeowners, have taken advantage of the ‘free money’, by selling the home after five years, paying no interest on the Help to Buy Loan and cashing in on whatever the value of the home had risen by.

And thirdly, if the price of your home has been inflated when you buy it, that could cause you issues when it comes to selling. The house will sell for its market value, which may not have risen as much as you would expect, because it is no longer eligible for Help to Buy. And you must still pay back the 20%, whatever the value achieved, the effect being that more of the profits potentially end up with the housebuilders, not the buyers & sellers.

The financial realities of Help to Buy

For the first five years, you don’t pay anything towards your Help to Buy loan – you simply pay your mortgage lender as normal. So essentially, it’s free money for five years. Sounds pretty good doesn’t it?!

But after five years, you start paying interest on the loan, currently 1.75% per year. If your loan is modest, that would seem manageable for most people – though bear in mind that a lot of people now are earning little more than they did five years ago because of austerity and wage growth stagnation. So that will suddenly be an extra payment coming out of your monthly money.

And the interest paid increases every year by RPI plus 1% – the higher of the two inflation rates that the government uses.

Don’t get me wrong, that still makes it fairly cheap money. But the bit that I really don’t like is that you can’t pay your borrowing down easily.

To make an overpayment to Homes England, you have to pay a minimum of 10% of the property value – not the amount of the loan! I’m a big proponent of overpaying a mortgage when you’re in a position to do so, so this doesn’t sit well with me because that’s incredible difficult to do for almost everyone.

With all that said, it’s important to understand that everyone’s circumstances are individual. For some, Help to Buy is absolutely a golden opportunity to get on the housing ladder, and if the alternative is to stay in rented accommodation forever then it’s a useful scheme for you.

But if you stay in the home for a very long period of time and the value goes up significantly, then that apparently ‘free’ or cheap money suddenly becomes very expensive when it comes to selling. Bear that in mind if you’re using the scheme.

What are the alternatives?

If Help to Buy isn’t for you, there is a savings scheme that can offer genuinely free money!

The Lifetime ISA is a great way to save for property, if you meet the eligibility criteria. You can put away up to £4,000 per year, get a 25% bonus on your money from the government, and if you’re a couple you can have one each.

The maximum value of the property you can use a LISA for is much lower than with Help to Buy: £450,000, whether inside or outside London… but you are the sole homeowner and you can overpay your mortgage according to your agreed terms with your lender, which will not require you to save 10% of your home’s value.

Your main home is more than just a roof over your head; it’s also a great investment, because when you sell it, if the price has gone up you make tax-free money on the rise in value. Whether it’s Help to Buy or a LISA, make use of the schemes in place that can help you onto the ladder.

Click here to access my Lifetime ISA vs Help to Buy ISA comparison guide