Rising house prices are making it increasingly difficult to enter the market. Parents who guarantee their children’s loans can help, but it is important to understand how this can impact the parents’ retirement or investment plans.
Being a guarantor generally means using the equity in your own property as security for your child’s home loan. It can help a first-home buyer to secure finance for a property they can afford but may not have a large enough deposit for, and to avoid the added cost of lenders mortgage insurance.
There are other advantages as well. “By guaranteeing a loan, you’re helping your child enter the property market sooner,” Mario Borg, Director and Mentor at Masters Broker Group explains. “Also, your child may be able to buy in a more desirable location and a home that better suits their needs. If they did it on their own, they may need to go further out of the city or perhaps settle for fewer bedrooms.”
You may want to help your child but it’s important you don’t go into the transaction blindly.
The main risk of guaranteeing the loan is that, depending on the structure of the guarantee, you could be liable should your child default on the payments, either by taking over the repayment schedule or handing over a full repayment.
If you can’t make the payments, the lender may sell the home used as security. If this is still not enough, the lender may also require you to sell assets to meet outstanding debt.
Another major risk is a bad credit rating if default occurs.
Plus, if you need to borrow money for another purpose, your property cannot be used. “If you want to buy an investment property, you can’t use the equity in your home because it’s already tied up in the child’s loan,” Borg says.
Minimising the risk
There are ways to minimise the risks. The most common is using a monetary gift or private loan. “This involves borrowing money against your property in your name, and then gifting it to your child,” Borg states. “You should have a legal agreement in place.”
Another way to avoid the risk is to buy the property jointly with your child. This means your name is on the title and you have a certain percentage entitlement.
When it comes to guaranteeing a loan, it’s always sensible to speak to a professional. You should also consider asking a legal professional to draw up a formal loan document outlining all conditions of the loan, interest rate and expected repayments.
Finally, outline an exit strategy. Financial situations change and, as the loan decreases with repayments, there may be an opportunity for you to withdraw your support to free up your assets without impacting your child’s loan.
Westpac cuts investor loan discounts
The SMH article reports that Westpac has joined ANZ, CBA and NAB in reducing the incentives for property investors. The regulators and APRA in particular have made it clear over the last 6 months that they consider growth in investment loans over 10%pa as a risk to the financial system.
Westpac – whose investor lending grew 11.5 per cent in the year ended March – is the most exposed to property investor lending of the major banks and is strong in NSW via its St George Bank subsidiary.The changes will apply to Westpac and all of the brands it owns, including St George, Bank of Melbourne and BankSA.
It is evident now that APRA is taking the measures they see necessary to reduce the growth in property investment loans to below 10%pa.
APRA grew more restless when Reserve Bank of Australia data released on the last day of April showed the banks expanded loans for property investments in the year ended March 31 by 10.4 per cent – the highest rate since 2008 and above APRA’s limit.
Even with these changes by the major banks it is still possible to get investment loans at rates below 5%. Whether these measures taken will reduce growth to a level acceptable by APRA or if additional measure will be required by APRA time will tell.
How to pick the best type of home loan
Andrew Heaven answers a readers question in The Australian about how best to approach selecting the right type of home loan.
In deciding whether to have a P&I or IO loan, consider the purpose of the loan: is it for investment or home purchase? Short term or long term? Can you afford higher payments?
Andrew provides a great overview of the questions that you or your credit advisor should be asking. When selecting the best type of home loan you need to understand the purpose of the loan, owner occupier or investment, and your goals, pay of debt quickly or minimise interest payments.
The most appropriate loan structure and repayment method will depend on your income, your cashflow needs and how disciplined you can be in debt reduction.
By understanding your purpose for the loan and your goals and requirements and taking into account cashflow, income and your discipline around debt reduction you can then work out what is the most appropriate loan structure and features for you. It is important to remember what is suitable for one person is not necessarily suitable for you.
APRA has more tools to tackle house prices
Continuing the theme this week this is another article looking at the changes that are occuring in the investor lending space. This article looks at what other measures that the Regulator APRA can bring to play to address the concern they have with the growth of investor lending in Australia.
APRA has recently outlined it has further measures it could implement, including increasing capital requirements, applying limits to certain types of lending, as well as additional oversight.
“Higher capital requirements were a recommendation from last year’s financial system review and any official announcement on them is still forthcoming,” Mr Bloxham said.
“The flagging of the possibility that prudential settings might be further escalated likely reflects the fact that there are trends in parts of the financial system that could be becoming more worrisome.”
Given the talk from both APRA and ASIC, and the action which has already been taken by a number of banks, there is going to be continued differentation in pricing or maximum LVR’s between onwer occupier and investment loans.
Given the growth in property prices which have been seen in Sydney and Melbourne, it is easy to see where APRA and ASIC’s concerns are.
Sydney house prices have shot up 14.9 per cent, year-on-year and 40 per cent over the last three years, while Melbourne have risen 8.5 per cent in the last year and 22 per cent over the last three, according to HSBC and RP Data.
We will have to wait and see if the current measures put in place by APRA and the mainstream banks will have the desired effect moderating growth of property prices to more sustainable levels or if APRA will have to utilise some of the other tools in its arsenal to get the desired results.
Bank makes it harder for investors to secure loans
Following on from yesterdays post about Owner-occupiers getting cheaper loans than investors, today there is an article in Mortgage Business around Bank West tightening the lending criteria to investors by placing an 80% LVR cap on new loans.
“In recent weeks, Australian banks have started tightening investment lending to comply with expectations set by APRA,” according to Bankwest.
“These expectations aim to ensure sustainable growth in the home loan investment sector to protect both investors and the home loan market.”
The article goes on to explain that a further 9 banks (including NAB) that are experiencing growth in investor lending at higher rate than APRA desires. I would expect to see more news in the comming weeks about tightening of lending to investors.