Low interest rates & mortgage stress - cycles are cycles
In August 2016, the Reserve Bank of Australia (“RBA”) cut the cash rate by a quarter of a percent to 1.5%. Last year also saw dramatic growth in median real estate prices particularly in Sydney city and metropolitan suburbs. The growth in the property market can be attributed to a number of factors including the rise in first-home buyers, an influx in local and foreign investors, demand/supply imbalances, and importantly, low interest rates maintained by the Federal Government.
Unfortunately, with housing affordability becoming increasingly more difficult across Sydney, particularly on first-home buyers, the risks involved of households overextending themselves to acquire property also rise.
In July 1996, the cash rate set by the RBA was 7.5%. The recent rate cut means that interest rates are not even one third (1/3) of what they were twenty (20) years ago. However, loans for first home buyers have more than tripled since 1996 while average weekly wages have only doubled during that time.
Mortgage stress is commonly a situation where households spend more than 30% of their pre-tax income on servicing their mortgage repayments. Take for instance a household couple with a combined income of $150,000 before tax servicing a home loan of $500,000. 30% of their before tax income would be $3,750 per month. Principal and interest mortgage repayments on the home loan at a standard variable interest rate of 5.5% would be approximately $3,000 per month or $36,000 annually. That’s about 24% of their pre-tax income going to pay their mortgage repayments.
Consider now the implications of one couple being unable to work due to illness or job loss. Their income may suddenly decrease to say $85,000 per year. 30% of their income now becomes $25,500 or $2,125 before tax. As Bankruptcy Trustees, we see unemployment and under-employment as one of the most common reasons for financial distress and personal insolvency in Australia.
Interest rates also play a factor in mortgage stress. Over the past four (4) years, the average home loan rate was around 7.3% compared to the current rate of around 5.4%. Households therefore also need to consider the long term serviceability of home loans as they may sometimes take up to 30 years to pay off. Households also need to consider that just taking “interest only” loans does not pay the principal debt off!
Another point to consider is that mortgage stress may be different for each household and the ‘30% rule’ may not be appropriate in all circumstances. For example, a couple with children may need to dedicate a greater portion of their income to childcare and education expenses and therefore may have more difficulty in servicing their mortgage from their income.
It is important to consider your individual financial circumstances and be realistic about what you can afford to borrow and repay. Seeking the advice of a professional (who has no vested interest) would be prudent in determining this aspect but also how changes in interest rates during the term of the loan (and in your life generally) will impact on your repayments.
If you are experiencing short term financial difficulty, you may be able to apply to the bank for financial hardship. If the problem is more long term, obtaining debt help or advice from a financial counsellor or Bankruptcy Trustee may be an option. At Jones Partners, we have four (4) registered Bankruptcy Trustees equipped with years of experience to discuss your financial situation and advice regarding your options. If mortgage stress is affecting you, please do not hesitate to contact Jones Partners.
Level 13, 189 Kent Street, SYDNEY NSW 2000
P: 61 2 9251 5222
F: 61 2 9247 5911
Suite 301, Level 3 - 4 Columbia Court
Nexus Building, Norwest Business Park BAULKHAM HILLS NSW 2153
P: 61 2 9894 9966
South West Sydney
Studio 2, Shops 10-11
38 Exchange Parade
NARELLAN NSW 2567
P: 61 2 4647 7468