‘The sleeping giant of banking regulation; a financier’s point of view’
It’s easy to become complacent in a country that has known nothing but prosperity for decades. We have lived through 25 years of continuous economic growth, an astounding feat which has left in its wake a false sense of confidence. House prices in major cities have seen above average growth and interest rates have done nothing but fall to what are record low levels. The economic climate has left households with some of the highest personal debt levels in the world. This credit has helped us to build equity and wealth, but if not properly managed may soon become our Achilles’ heel.
In my daily working life, I am already seeing a cash-flow squeeze and am privy to the many reasons why things are becoming tough. I have compiled a list of key risks for those who are not involved in such issues daily. I apologise for some technical language, but feel it is best that people are informed from a financiers point of view.
The potential downturn in housing prices is very real, especially in the eastern states which have seen rapidly rising prices for a range of reasons, including: population growth, foreign investment, lack of new land, tax advantages and abnormally low interest rates.
Changing bank policies could restrict more than just existing borrowers. These changes are being forced upon lenders by the regulators and are targeted at a wide range of customers. The intention of regulation is to protect consumers, which I support fully and is working for those entering the market. The results for some existing customers may be the exact opposite.
Investment lending restrictions include reduced loan to value ratios (LVR’s) on certain postcodes and in some cases on investment lending in general. Inner city apartments and high-density living have been hardest hit. Beware of property spruikers selling off the plan properties which will become harder to finance.
Banks have a speed limit on investor growth of 10% in any given month and they have capitalised on this opportunity to increase shareholder’s profits via increased investment loan rates on both existing and new customers.
You can expect to pay a premium of approximately 0.5% on investment loans. On a $500,000 mortgage this adds $2,500 each year to the cost of holding your property.
Interest only (I/O) borrowings have also been hit with intense LVR restrictions and additional rate loading. Your average interest only home loan will now cost you approximately 0.2% more than a Principal and Interest (P&I) mortgage. That’s $1,000/annum on a $500,000 mortgage. The banks have been set a cap of 30% of all loans allowed to be I/O per annum. There are harsh penalties for breaching this cap, so don’t expect lenders to fall over themselves for your I/O business.
Exit Strategies are critical if you are seeking a loan where the term will exceed your retirement age. It is only reasonable that lenders need to see a clear path to loan repayment once customers reach retirement. The last thing we want to see is a customer struggling with mortgage repayments and inadequate retirement savings. These strategies can come in the form of sale of an investment property, drawing on superannuation/savings to repay debt or accelerating payments to ensure debt is cleared prior to reaching your twilight years.
High LVR loans are the latest change instigated by lenders, this will mean that first home buyers and those wishing to borrow >80% of their property’s value will find it harder to borrow. There are still a few lenders offering 95-97% loans for owner occupation, but the list is shrinking rapidly and some interest rates for this category are increasing as the competition disappears and scrutiny from above intensifies.
Mom and Dad investors are set to feel the pinch of rising interest rates via forced Principal and Interest (P&I) repayments. Banks have changed policies re: I/O renewals, forcing applicants to show serviceability over the remaining term if wishing to extend interest only. This would not have been an issue some years ago, but assessment rates, deemed living expenses, policy changes and how banks treat your existing liabilities has changed. This means that some borrowers who could pass a servicing test in years gone by are now unable to pass and must revert to a P&I repayment over the remaining term.
For example: A 4.80% interest rate in I/O repayment would equate to $1,875/month. If that loan had been running for 10 years and you couldn’t meet criteria to extend I/O, you will be forced to revert to a principal and interest repayment over 20 years. Although your rate may be 0.2% cheaper, at 4.60% the required minimum repayment would be $3,190/month. This is a $15,780 hit to your cash-flow each year. If you compound this with multiple investment properties, you will have to make serious lifestyle changes.
Now you know what’s coming, what can you do about it?
'The key thing is that you prepare for change and act early'
Seeking advice from your Accountant, Financial Planner and Mortgage Broker is a great place to start. You should discuss short and long-term goals, this will help you plan and budget for the change that is inevitable.
My job as a Mortgage Broker involves staying up to date with daily banking regulation and policy changes. We get paid to ensure that you are looked after for the long term. We regularly review customer’s facilities for suitability and pricing competitiveness and act with your best interests front of mind.
Use my knowledge to your advantage, it is at no cost to you.
Disclaimer: This article is generic in nature. All investment decisions should be considered wisely and based on your personal and financial circumstances. Seek proper advice before committing to any course of investment action. This is not deemed as advice.