Progressing to exchange of contracts - Sources of finance and types of mortgage

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Overview

The move to exchanging contracts in property transactions is a key moment where knowledge of finance sources and mortgage types is essential. For those preparing for the SQE1 FLK2 exam, understanding these topics is important not only for academic success but also for practical legal application. This article examines the legal and financial aspects of property finance, focusing on various funding sources, mortgage types, and their impact on the conveyancing process.

Sources of Finance for Property Transactions

Banks and Building Societies

Banks and building societies are the primary lenders in the property market, operating within a detailed regulatory framework:

  • Legal Framework: These institutions are regulated by the Financial Conduct Authority (FCA) and the Prudential Regulation Authority (PRA), under laws like the Financial Services and Markets Act 2000 and the Consumer Credit Act 1974.
  • Conveyancing Process: Solicitors must liaise with these lenders to ensure compliance with their requirements, such as obtaining a Certificate of Title before funds are released.
  • Regulatory Considerations: The Mortgage Credit Directive (MCD) adds obligations on lenders concerning affordability assessments and information for borrowers.

Employer Loans

Employer loans, offered as part of employee benefits, bring unique legal considerations:

  • Contractual Obligations: These loans often include terms tied to continued employment, intersecting with employment law.
  • Security Arrangements: Legal skill is needed in structuring these loans, especially regarding the employer's interest in the property.
  • Tax Implications: Solicitors must consider potential tax liabilities if these loans are deemed benefits in kind.

Private Mortgages

Loans from family or friends require careful legal structuring to protect all parties:

  • Formal Documentation: A well-drafted legal agreement is necessary to prevent disputes.
  • Registration Requirements: These mortgages need registration with HM Land Registry to be enforceable against third parties.
  • Regulatory Compliance: Private lenders may need to comply with certain regulations, like the Consumer Credit Act 1974.

Government Schemes

Government-backed schemes like Help to Buy involve complex legal structures:

  • Equity Loan Scheme: This needs a three-way agreement between the buyer, the government, and the primary mortgage lender.
  • Shared Ownership: These involve unique legal structures combining elements of leasehold and freehold ownership.
  • Eligibility Criteria: Strict criteria govern these schemes, and solicitors must ensure clients meet all requirements.

Types of Mortgages: Legal Considerations and Risks

Repayment Mortgages

Repayment mortgages are straightforward legally:

  • Contractual Structure: These involve a clear repayment schedule, with the borrower gradually acquiring property equity.
  • Legal Charges: The lender's interest is protected through a legal charge registered at HM Land Registry.
  • Conveyancing Considerations: Solicitors must ensure the mortgage offer aligns with the property's value before completion.

Interest-Only Mortgages

Interest-only mortgages pose specific legal challenges:

  • Repayment Vehicle: Lenders require a binding commitment to a repayment strategy, which solicitors must verify.
  • Disclosure Requirements: Under FCA regulations, lenders must clearly explain the risks.
  • Equity Release Considerations: For older borrowers, these may be part of equity release schemes, needing specialized legal advice.

Fixed-Rate Mortgages

Fixed-rate mortgages offer stability but come with legal challenges:

  • Early Repayment Charges: These terms can be significant and require clear client explanation.
  • Variation Clauses: The mortgage deed may allow term variations, needing careful review.
  • Refinancing Implications: Solicitors must advise on the implications of refinancing during or after the fixed-rate period.

Variable-Rate Mortgages

Variable-rate mortgages, including tracker and discount mortgages, present specific legal considerations:

  • Interest Rate Caps and Collars: These provisions require careful scrutiny and explanation.
  • Regulatory Oversight: The FCA monitors lender application of variable rates, especially in customer fairness.
  • Switching Rights: Many include rights to switch to fixed rates, requiring legal interpretation.

Example: Complex Financing in New Build Purchases

Consider a first-time buyer, Emma, purchasing a new build using a mixture of the Help to Buy equity loan and a traditional mortgage:

  1. Legal Structure: Emma's purchase involves a tripartite agreement with a 20% equity loan and a 75% mortgage.
  2. Conveyancing Challenges: The solicitor must coordinate with the developer, Help to Buy agent, and mortgage lender, each with distinct requirements.
  3. Title Restrictions: The Help to Buy loan will be a second charge on the property, registered alongside the primary mortgage.
  4. Contractual Obligations: Emma's solicitor must ensure she understands the repayment terms and their impact.
  5. Regulatory Compliance: The transaction must comply with FCA mortgage regulations and Help to Buy rules, requiring attention to detail.

Case Study: Buy-to-Let Mortgage with a Limited Company Structure

John, a seasoned property investor, buys a rental property via a limited company using a buy-to-let mortgage:

  1. Corporate Structure: John's solicitor must advise on the legal implications, including tax and directors' responsibilities.
  2. Mortgage Eligibility: Criteria for limited companies differ, and the solicitor must ensure all requirements are met, including personal guarantees.
  3. Regulatory Considerations: Although buy-to-let mortgages are generally unregulated, the solicitor must advise on potential issues if John lets to family.
  4. Tenancy Agreements: The solicitor should ensure compliance between mortgage terms and proposed tenancies.
  5. Exit Strategy: Legal advice is vital regarding options for selling or transferring ownership, considering property and company law.

Conclusion

A thorough understanding of property finance sources and mortgage types is necessary for the SQE1 FLK2 exam and legal practice. Key points include:

  1. Various finance sources, each with unique legal and regulatory frameworks.
  2. The importance of knowing different mortgage types and their contractual details.
  3. The solicitor's role in managing complex transactions with multiple parties.
  4. Legal structures' significance in scenarios like buy-to-let through limited companies.
  5. The ongoing need for regulatory compliance and client protection in property finance.

Equipped with this knowledge, aspiring solicitors will be well-prepared to handle property transactions and offer expert advice in this dynamic field.