Under the hood of the Help to Buy guarantee

The thinking behind the guarantee is to make credit worthy individuals who only have small deposits more appealing to lenders, which have steered clear of high loan-to-value mortgages in recent years.

The government guarantee will apply up to 20 per cent of the purchase value of the guaranteed property, less the homebuyer’s deposit of at least 5 per cent. It will compensate lenders for “losses and reasonable costs” they are entitled to recover in the event of foreclosure.

The government will not bear this costs alone, however: lenders will also take a 5 per cent share of net losses above the 80 per cent threshold. According to HM Treasury, this will help ensure lenders are not incentivised to originate poor quality loans.

So for a house worth £600,000, the minimum 5 per cent deposit would be £30,000 and the guarantee would apply to losses on £90,000. The 5 per cent of this that must be covered by the lender would equate to £4,500, leaving the government guaranteeing losses and costs on a maximum of £85,500.

Each lender will pool the loans that they wish to place in the scheme and the government guarantee will be applied to that pool. A cap, expressed as a proportion of the overall pool size, will apply on the total level of guarantees provided to each pool.

The Help to Buy mortgage guarantee will run for three years from 1 January 2014.

The guarantee will be valid for up to seven years after the mortgage is originated, as was the case with the New Buy scheme. According to HM Treasury, evidence shows that loans are unlikely to default after such a period has elapsed, while at this stage homebuyers with a repayment mortgage will typically hold an equity stake of 20 per cent in any case.

Alongside the guarantee, there is the equity loan. This is available from the government interest free for the first five years, after which 1.75 per cent interest will be payable. This figure will increase every year by the level of retail price inflation (RPI) plus 1 per cent.

The government provides a loan of up to 20 per cent where an individual has an additional 5 per cent deposit saved. The government owns a share of up to 20 per cent of the equity of the property at the outset; once the loan is paid back, it will no longer own a stake in the property.

Applicants can pay back the government loan at any time, but any overpayments made will have to be a minimum of 10 per cent of the amount owed each time.

Help to Buy equity loans will run for three years and started on 1 April 2013.