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Loan Squeeze Set To Ease

The stars are aligning for home buyers with a new formula to be used by the banks in assessing mortgage applications that will make it easier to get home loans.

After months of restraining bank lending, on Tuesday the prudential regulator said it would soften rules around mortgage ‘stress tests’.

The move should mean the average household could get about $60,000 more on a home loan without any change to their income.

Up until now, banks running stress tests had to assume rates were 7 per cent. They were adding another 0.25 per cent for good measure. Yet in reality the mortgage rate most banks charge right now is closer to 4 per cent.

Under the rule change, banks will be allowed to “assume” the rate is whatever they are actually charging on mortgages, plus another 2.5 per cent added on top as a safeguard against any future rate rises.

The key problem for many mortgage applicants is that the bank will not lend as much as they want. This move will increase the amount the bank can offer any applicant. What’s more, if rates move lower, the amount that can be borrowed will move up each time.

The rule change will be welcomed by the finance and property industry and spark fresh concerns on household debt. But it completes a trifecta for first home buyers who are already looking at softer house prices and lower home loan rates:

In terms of raw numbers the new directive means people can borrow about 9 per cent more than they could previously.

“Typically, a bank might look at a case where people want to borrow $750,000 under these new rules,” says financial adviser James Gerrard. “They will now assume they need to pay about $3750 less each year. It makes a difference.”

Of course being allowed to borrow more — on unchanged income — is not the same thing as being charged less. That will require a rate cut.

The Australian Prudential Regulatory Authority announced the stress test change on the same day the Reserve Bank offered what many in the market see as the clearest indication yet it will at last move to reduce official rates.

RBA governor Philip Lowe said the bank would look at cutting rates in a fortnight‘s time.

An official rate cut would feed into lower headline mortgage rates, which will further lower the new “assumed” rate banks use in assessing mortgage applications.

CEO at research agency Riskwise, Doron Peleg, says a fresh rate cut from the RBA will lift borrowing capacity further for home loan applicants. Peleg suggests if the RBA comes through with two cuts, a as many expect it will, it could lift borrowing capacity by up to 14 per cent.

After months of sluggish activity where some major banks recorded reversals in lending flows, the combination of easing standards and lower rates point to a possible stabilisation of the home lending market, where prices have been falling since 2017.

Following the extended downturn in house price we now have two groups emerging with very different outlooks. The market is very much in favour of first home buyers, who benefit the most from falling prices. They will also be boosted by the government’s First Home Buyers Deposit plan, which will allow borrowers to buy a house with just 5 per cent deposit. Under the plan, which was announced just as week ago, the federal government will guarantee the other 15 per cent needed on a typical 20 per cent deposit arrangement.

The deposit scheme is almost certain to “sell out” in the months ahead as more buyers are enticed into the market. There is an effective cap on the program of $500m, which would fund perhaps 10,000 home loans: about one tenth of the market.

At the other end of the spectrum are the unfortunate buyers who paid big prices at the top of the market in 2018. They’ve watched as their home values dropped to levels that are lower than the value of their home mortgage, creating what economists call “negative equity”.

As a debate simmers between the RBA and local economists over the extent of negative equity, Moody’s Rating Agency said on Tuesday it believed about 2.6 per cent of the mortgages it rates are in negative equity. The agency said that “will increase from low levels but will not pose significant risks”.

 

Sources: APRAThe Australian