How rising interest rates in the UK have impacted the Real Estate Finance market
In recent months, we have seen a rise in interest rates. The Bank of England base rate (the Base Rate) which is currently 5.25%, is at a 15 year high.
This has had a widespread impact across the financial landscape, largely due to the speed at which the increases have taken place.
The real estate finance sector is being impacted as it faces uncertainty amongst such difficult market conditions.
Marcus Kaye, Senior Associate Solicitor in the Real Estate team at Blacks Solicitors, shares his insight into how rising interest rates have impacted the Real Estate finance market.
This market is closely synchronised with interest rates given the link between lending products and the Base Rate. The Base Rate determines the interest that is payable to commercial banks who hold money with the Bank of England. This then influences the rates that commercial banks charge to prospective borrowers.
Here we discuss the impact of rising interest rates on the real estate finance market:
As interest rates rise, affordability decreases for borrowers. If a borrower has a £1,000,000 loan with a variable interest rate of 3% over the Base Rate, this would equate to £85,000 in annual interest payments compared to £31,000 a couple of years ago. Given that real estate investors are predominantly reliant on funding to facilitate investment projects, the increased cost of funding has led to an inevitable slowdown in acquisitions.
This has resulted in borrowers resorting to second-tier lenders, offering (generally) more expensive short-term borrowing with higher interest rates but who have greater appetite for risk. Whilst this has provided a diversity of capital, the rise of second tier lending has prompted an increase in lending which sits outside the usual regulatory oversight and thus carries its own inherent risks.
- Property developers are facing similar challenges. Increasing development costs (due to increasing material and employment costs) coupled with high interest rates have led to a squeeze on existing construction projects. Developers are also becoming increasingly hesitant to pursue new projects which carry added financial burdens and risk.
- Many owner-occupiers are finding themselves facing hikes in interest payments with no increases in revenue to offset these costs. Commercial landlords on the other hand are being hampered by existing rent review provisions, the majority of which, due to the low and steady interest rates over the last decade, do not track interest rates and inflation thereby causing further cashflow problems.
- For lenders, the increasing risk associated with a high-interest market has prompted a re-evaluation of attitudes to risk. Lenders seem to be tightening their lending criteria and adopting more cautious policies. An example of such policies includes a decrease in LTV (loan-to-value) ratios, which reflects the percentage of a loan against the value of the property being financed. Higher reliance is placed on the covenant strength of an occupational tenant.
Whilst it seems unlikely that we are going to see further significant increases in interest rates in the short term, the impact of the recent increases is unlikely to have been fully felt yet. It is therefore critical for you, your customers and stakeholders to plan for the impact and identify the opportunities that may be presented along the way.
How can we help?
If you would like more information regarding real estate finance and how we may assist in this regard, please do not hesitate to get in touch via email or telephone. Our contact details are as follows: RealEstateEnquiry@LawBlacks.com or call 0113 322 2818.