New research paper on default of buy-to-let loans on UK books of Irish lenders

• Strong UK evidence to support tighter restrictions on loans for second and subsequent properties.
• Default increases with higher originating loan-to-value (OLTV) and rent coverage (ORC).
• Analysis is based on a sample of 106,775 loans on UK books of Irish lenders.

The Central Bank’s new technical research paper ‘Lending Conditions and Loan Default (PDF 1.4MB): What can we learn from UK buy-to-let loans?’ looks at the role of originating lending conditions in determining loan defaults  on UK books of Irish banks.  The paper draws on a loan-level dataset for the UK which contains the loans of Irish banks’ subsidiaries in the jurisdiction and finds lower loan to value (LTV) at the start of a mortgage leads to a lower chance of default.

The study concludes regulatory limits on debt-service-ratios and loan-to-value ratios could be applied to reduce the level of default in the UK.   It also finds macroprudential policies implemented at loan origination, such as restrictions on high LTV and affordability ratios can provide buffers against adverse shocks.   Default rates double in the case of multi-loan properties.

The research considers how limits on lending ratios can be calibrated to limit default risk in the buy-to-let market.  Using a sample of mortgage loans for the UK, the paper estimates a ‘double trigger’ default model, with originating equity and affordability terms.

To compare the magnitude of the effects, a one standard deviation increase in OLTV would increase the default rate by 28 per cent while a one standard deviation decrease in ORC would increase default rates by 23 per cent.

The study finds loans of original loan to value greater than 75 and original rent coverage below 1.5 showing a large increase in default risk.

Note:

Research Technical Papers are published on the Central Bank’s website here.