Borrowers approaching the expiry of their interest-only home loans period could be required
to fork out an additional $7,000 a year, according to the Reserve Bank.
In his address to the Housing Industry Association breakfast in Sydney on 24 April , RBA
assistant governor (financial markets) Christopher Kent noted that an interest-only (IO)
borrower with a $400,000, 30-year loan with a five-year interest-only period could be faced
with a 30 per cent to 40 per cent increase in mortgage repayments.
“Because there’s no need to pay down principal initially, the required payments are lower
during the interest-only period. But when that ends, there is a significant step-up in required
payments,” Mr Kent said.
“This owes to the need to repay the principal over a shorter period; that is, over the
remaining term of the loan. Also, because the debt level is higher over the term of the loan,
the interest costs are also larger.”
The RBA assistant governor added that the “non-trivial’ step-up in mortgage repayments
would make up 7 per cent ($120 billion) of the total housing credit outstanding.
Mr Kent warned that such risks would have an adverse effect on borrowers and lenders
alike, with some borrowers particularly at risk in the event of a “shock” to the broader
Australian economy.
“If the borrower has made no provisions and is unable to make the necessary adjustment,
they may need to sell the property to repay the loan. Therein lies an additional risk inherent
in interest-only lending.
“Moreover, the borrower’s ability to service the loan is not fully tested until the end of the
interest-only period.
“If the borrower defaults, the potential loss for the lender will be larger than in the case of a
P&I loan, given that interest-only loans by design allow borrowers to maintain the debt at a
higher level over the term of the loan.”
Mr Kent also echoed a view expressed by ratings agency Standard and Poor’s (S&P) that
owner-occupier borrowers are exposed to greater risk than investors following the expiry of
the IO term.
“The most vulnerable are likely to be owner-occupiers, with high LVRs, who might find it
more difficult to refinance or resolve their situation by selling the property,” Mr Kent said.
However, the assistant governor observed that the impact of such risks would be
“moderate”.
Mr Kent noted that he was confident in borrowers’ ability to manage the rise in mortgage
repayments, claiming that many borrowers would service their mortgage using savings
they’ve accumulated, through offset or redraw facilities, or by refinancing.
“For the household sector as a whole, however, the cash flow effect of the transition is likely
to be moderate,” Mr Kent added. “The effect on household consumption is likely to be even
less.
“This is because some interest-only borrowers will be willing and able to refinance their
loans. Also, many others have built up a sufficient pool of savings, or will be able to redirect
their current flow of savings to meet the payments, or have planned for, and will manage,
this change in other ways.”
Mr Kent also stressed the importance of lending curbs introduced by the Australian
Prudential Regulation Authority (APRA).
“The observation that the transition is proceeding smoothly is not an argument that the
tightening in lending standards on interest-only loans was unwarranted — far from it.
“The tightening in standards starting in 2014 has helped to ensure that borrowers are
generally well placed to service their loans.
“And the limit on new interest-only lending more recently has prompted a reduction in the
use of those loans during a time of relatively robust growth of employment and still very low
interest rates.
“In this way, it has helped to lessen the risk of a larger adjustment later on in what could be
less favourable circumstances.”
www.mortgagebusiness.com.au / “Interest-only borrowers face $7,000 mortgage hike: RBA”
/ Charbel Kadib