Since late last year I have been warning people that banks will be increasing interest rates, regardless of what the RBA does officially.
APRA (banking regulator) is trying its best to slow down the rapid growth of investors purchasing property. They sent a letter to all the banks in Dec 2014 to slow down lending to investors and to limit increasing investor loans by no more than 10% each year.
The January 2017 housing finance data showed loans to investors had increased 4.2% over the previous month and a 27.5% increase year-on-year. This is the data that the RBA and APRA where concerned about. This is way above the 10% annual cap that they were hoping for.
The banks believe they can achieve slowing down this growth by increasing investment loan rates. I don’t agree increasing rates is the only way.
The banks need to take some responsibility for this rapid increase as they have been very aggressive in targeting investor clients. They were offering above normal discounts and cash incentives to get investor loan business from other banks. Ultimately these offers were not sustainable and rates needed to increase as a result.
We are likely to see a new round of tightening of how banks lend to investors, focused not solely on rates. Will share my thoughts on what is likely to happen over the coming months and year below.
How will they slow down investors buying property?
Larger deposits required
I believe that we will see greater deposits required for investor loans. Currently a 10% deposit plus costs i.e. stamp duty etc. is only required to purchase an investment property.
We could see a minimum of 20% deposit required in the future. This can be enforced by the regulators. Some smaller banks have already capped loans to investors at 70% and interest only loans to 80%. Expect more lenders to follow and maximum lends to investors to be capped to around 80% in the short term.
Interest only loans restrictions
We will see more lenders restricting the availability of interest only loans or line of credit loans. Interest only loans will be targeted with higher interest rates.
Lenders will be wanting investors and owner occupiers to start reducing their loan balances just in case there is a correction to housing prices. So, principle and interest repayments for investors would be the preferred repayment method of the lenders.
Mortgage insurers will get tighter
Mortgage insurers may also temporarily exit the investor loan market because of all these changes. If they are to stick around they will most likely increase the mortgage insurance premiums for new investor loans and/or interest only loans. They too may have new additional minimum lending requirements to protect themselves.
Banks will be selective on who they deal with
We have already seen some banks rationing their credit and could potentially see more lenders follow suit. Some banks have decided to stop refinancing of other banks investor loans to not breach the 10% growth limit currently imposed by APRA.
We may also see some lenders restricting who they lend to and only deal with current customers i.e. already have some type of credit with that bank.
Postcode restrictions
For suburbs that have a high proportion of investment loans in that area or development, lenders may require further deposit and restrict maximum loan to value ratios.
Alternatively, then may decide not to lend to that development or postcode all together.
Property type restrictions
Lenders will be selective on the type of property they accept as security. One bedroom units over 40 sq. metres were once generally acceptable, this has increased to 50 sq. metres. Some lenders recently have change this requirement and are now are asking for a minimum internal living space of 60 sq. metres.
Increase interest rates
I do believe rates will continue to increase and there will likely be more out of cycle rate increases. Immediate impact is your loans will become more expensive and you may need to increase your tenants rent to cover the shortfall.
We have already seen some banks increasing their variable investment loans and some owner occupier loans recent months to slow down lending.
Fixed rates are also likely to come under scrutiny and likely rise sharply in the coming weeks/months as the market adapts to this new pricing environment.
Reduce borrowing capacity
The maximum you can borrow is coming down for investors. This is due to the increase in interest rates and the way banks stress test new and existing loan repayments.
Currently how much you can borrow is based and stress tested on interest rates around 7.25%-7.80%. APRA may demand that all new loans be stress tested around the 8.00% mark, which will drastically reduce your borrowing capacity.
So those investors purchasing property and receiving a rental yield of 2%-3% will need to change strategies and lower their budgets to adapt with these changes.
Caution for off the plan purchases
All the above changes should signal warning bells for purchases of off the plans.
Larger deposits being required, potential postcode restrictions, borrowing capacity being reduced are all real threats and need to be factored in when thinking about purchasing something off the plan.
Every time I get a client coming to me for an off the plan purchase I warn them, that I do not know what the market will be like in 2 – 3yrs. I do not know what rates will be, I do not know if you will still be employed or self-employed. If you will be married or how many kids you may have, or what your financial position will be once the property you are buying has been completed.
There is a lot of uncertainty when buying something off the plan and unless you are a very stable in nature and are in a strong position financially, consider not investing for the time being.
What to do?
I have received a few calls from clients last week, when two of the big four announced that they will be increasing rates for new and existing investment loans. I have told my clients to hold off on making any rash decisions to switch banks until we see how other banks respond in the short term.
Use a mortgage broker
Shop around, use the services of a mortgage broker. Work with a mortgage broker that has experience in investment loans and understands credit policy.
Whilst these changes are largely targeted at the big banks, there are plenty of non-bank lenders out there that have been quite responsible with their lending and keen for investor business.
Be patient
We are likely to see banks turn on and turn off their appetite for investor loans depending on how close they are to breaching the cap.
When one major bank recently pulled out of the investor market the other three banks sent emails straight away saying that we have not reached our cap and are open for business and offered some great specials to get new business.
Be prepared to use non-banks or other lenders
Be prepared to use non-banks or smaller lenders that you may not have heard off previously. Non-banks help keep the banks honest.
A major lender outside the big four recently indicated that they are considering re-entering the investor loan space after a couple of quite years not chasing investor business. It was a well-placed strategy as they knew that they could not compete with the big banks on price and chose to focus on growing their owner-occupied portfolio in the meantime.
Review your loans
Once the dust has settled and these changes come through, I think there will be some significant interest savings for investors. They need to take the time to sit down and review their finances.
So, if you have bought that investment property 3+ years ago, you may have equity in your property that you can use to get a better deal on your home loan. Lenders are after low risk lending.
If you want to start paying your debt down with principle and interest repayments, your rate could also come down.
Summary
Expect tighter lending standards imposed both by government regulators and by the banks themselves. We are likely see higher rates, and policy changes coming think and fast over the coming months.
Align yourselves with a mortgage professional that understands these changes and how they, might impact your property plans. There will be lenders available to support you growing your property portfolio. There will always be options, but you may need to look outside the big 4.
If you are not happy with your bank increasing your rates, get in touch and let them know. They are counting on us to be lazy and to just accept higher rates. Tell them that you want a better deal, if they won’t budge, it’s time to look around at your options. There will be savings to be made.
Property is a long-term game, but you need to be prepared to take break and reassess from time to time. Now could be the perfect opportunity to get ready for the next play.
Theo Angelopoulos is mortgage broker with over 15 years of banking and finance experience. Theo is the Director and Founder of The Loans Analyst. A boutique mortgage broking advice firm based in the Sydney CBD that helps clients to buy property, provide strategic loan structuring advice and helping get a great deal on their home loan.