* Government lending incentives may prove hard to end
* Gap between London and rest of country at record high
* Bank of England faces tricky balancing act
LONDON, Aug 4 (Reuters) - Tony Richmount is thankful he procrastinated.
A year ago, the retired engineer from Wimbledon wanted to sell his house and move to a retirement flat but got cold feet. That proved to be a stroke of luck. His three-bedroom house, valued at 600,000 pounds last summer, has just sold for 725,000 pound ($1.1 million).
Property appreciation of 20 percent in a year is far from unique in parts of London like the leafy south-west neighbourhood known best for its tennis tournament.
Record-low interest rates and generous - some say fiscally dangerous - government incentives to get banks lending have lifted mortgage affordability to its highest in generations.
It has prompted talk of housing "bubbles" and questions about whether billions of pounds in stimulus for the economy is going to the right place.
Britons, many of whom who need little encouragement when it comes to borrowing, are making the most of it, leveraging up like they did before the credit crisis and helping drag the economy out of its post-recession doldrums.
Property prices are rising at their fastest pace in three years, according to Nationwide, a building society. In London, the best-performing region, prices are already 5 percent above their 2007 peak.
Critics accuse the government of pumping up the market to restore a feel-good factor ahead of national elections in 2015. A recovery driven by credit, they say, is unsustainable and will build problems for the future when interest rates rise.
For aspiring British homeowners, however, the lure is strong. The Bank of England has given a strong hint it might not raise rates before 2016 and the government is adamant its "Help to Buy" scheme will run for three years, rising prices or not.
In the capital, cheap mortgages are changing the drivers of the market. Big price gains used to be for trophy homes snapped up for cash by super-rich foreign buyers. Now the bidding wars are breaking out in the suburbs.
Sean Purtill, managing director of Wimbledon estate agent Ellisons, says buyer interest has exploded in the last three months. In South Park Gardens, a desirable pocket of tree-lined roads near a park and good school, prices have risen 24 percent in a year. In the "Apostles", a grid of Edwardian family homes, prices are up 23 percent.
"Just last week we had a meeting of our branch managers and everyone kept saying how incredible this market is," he said.
"When a house comes on our books we will typically hold an open day on a Saturday, have 15 to 20 people look round it and by Monday we'll have five bids, mostly at the asking price."
Sealed bids, not seen since the frothy days of 2007, are making a comeback and homes in popular areas can draw two or three offers above the asking price.
To make sure prospective buyers are serious, Ellisons require successful bidders to engage a lawyer within 48 hours and book a property survey within three weeks. Delays, Purtill explains, scupper deals: Sellers see a neighbour's house come on the market at a higher price and wonder if they should re-market their property for more.
A scarcity of land for development and a concentration of high earners has turbo-charged price growth in the capital.
Fewer than 12,000 homes a year have been built in Greater London in the last decade, a fraction of the 30,000 or more that experts say are needed just to keep pace with demographic shifts.
Where London leads, the rest of the country tends to follow, but the gap between the capital and less affluent regions is growing. House price growth nationally has picked up to around 4 percent a year but in parts of northern England prices are flat at best.
In Liverpool, an industrial city in the north-west, the council has launched a project to auction derelict properties for as little as a pound. In the seaside town of Blackpool a little further north, two-bedroom properties can still be bought for 50,000 pounds, a 10th of the cost of an average house in the capital.
The government touted "Help to Buy" as a scheme to help people onto the property ladder who would otherwise lack the means to do so, but its biggest impact appears to have been to drive up prices in more affluent areas by making the housing market seem a one-way bet. Indeed, the properties selling fastest are often above the scheme's 600,000 pound price limit.
Ben Cameron, a sales negotiator at Andrew Scott Robinson, an estate agent that focuses on South-West London and further out Surrey, reckons the sweet spot is between 600,000 to 1.2 million pounds.
A house in this bracket, particularly if near a good school and transport links, will often sell in just one or two weeks. Nationally, the average time a property spends on the market is eight weeks.
"Buyers are coming out of rented accommodation because they are seeing prices rise. They may have missed out of previous house price rallies and want to jump on this one," he said.
"Help to Buy" is not the only way the government is subsidising the housing industry. The "Funding for Lending Scheme" launched via the Bank of England a year ago has helped lower mortgage costs and increase the availability of loans.
Before the scheme was introduced last summer, the lowest five-year fixed mortgage rates were close to 4 percent. Now rates can be as low as 2.49, below the rate of inflation.
Between 2009 and 2012, the recovery was driven by overseas cash buyers looking to shelter their wealth from instability in the euro area and from political change sweeping through North Africa and the Middle East.
Most demand now, says estate agent Knight Frank's head of residential research Liam Bailey, is from Britons buying with a mortgage.
There are signs that the recovery in the housing market is fuelling a recovery in the broader economy.
Rising prices typically go hand-in-hand with rising consumer spending, and the government's "Help to Buy" scheme has given property developers the confidence to build again. The construction sector grew last month at its fastest pace in three years, with the residential sector the best performer.
Supply, however, is still not keeping pace with rising demand.
The International Monetary Fund, former Bank of England policymakers and Britain's official budget watchdog have all warned that state-backed mortgage guarantees, the main plank of "Help to Buy", will only push prices higher, putting property further out of the reach of first-time buyers.
Concern has even been voiced from within the government's own ranks.
"I did warn about it, and I am worried about the danger of getting into another housing bubble," business minister Vince Cable said.
Mortgage payments as a percentage of average income look sustainable, but this will only hold for as long as interest rates remain at abnormally low levels. Affordability on traditional price/earnings metrics is already looking stretched.
The Bank of England faces a dilemma. If it tightens policy prematurely to put a break on property prices it could snuff out the recovery. If it leaves rates at record lows, homeowners will load up on more debt and be in more trouble when rates eventually rise.
A Bank of England report in May warned that nearly one in 10 people with a mortgage would have to take significant action - such as working longer hours or cutting back on spending - if rates were to rise by just one percentage point.
While policymakers deliberate, those stepping off the property ladder are rubbing their hands. Tony Richmount is looking forward to a more comfortable retirement, and the opportunity to indulge his grandchildren too.
"My son, who works in finance, told me I was making a mistake when I didn't sell last year," he said. "I'm glad I didn't listen."