From The Australian, Wealth:
Ed Charles | August 29, 2007
Investors with low-doc loans should reassess them,
MORTGAGE brokers are warning property investors to be careful which low-doc and non-conforming lenders they choose to ensure they don’t face interest rate increases over the market rate charged by mainstream banks.
The combined effect of the Reserve Bank of Australia’s August rate rise of 0.25 per cent and the knock-on effect of the US sub-prime mortgage crisis means funding costs for non-bank lenders such as Bluestone, RAMS and Pepper Homeloans has increased above that of banks. While information is still emerging, Bluestone is only passing on the RBA’s 0.25per cent increase to existing borrowers.
However, for new loans there is an additional 0.17per cent to 0.55 per cent charged.
Pepper Home Loans is adding 0.15 per cent to the RBA’s 0.25 per cent increase on new loans while passing on the 0.25 per cent RBA increase only to existing customers.
By contrast, RAMS is increasing rates on new mortgages by just the 0.25 per cent RBA increase but is reported to have raised rates for some existing low-doc loans by 0.30 per cent, 0.05 per cent above the RBA increase.
Affected RAMS customers will receive letters informing them of their rate increases shortly.
While RAMS said it was “commercial in confidence” which loans it had increased 0.30 per cent, some borrowers may be able to be swapped into new loans at a more favourable rate.
Alison Johnstone, managing director of mortgage broker Choice Homeloans in Padbury, Western Australia, says: “We are watching it closely as I am sure all brokers are.”
She says that low-doc loans are the only option for many investors building large property portfolios because few, unless they are earning $600,000-plus, can finance their investments on their salaries alone.
“A large portion of investors use low-docs,” Johnstone says.
“We will keep them fully verified. But people’s incomes or salaries don’t normally substantiate everything. A lot of investors are purely investors and they are not PAYG earners and maybe don’t have tax returns ready. There is a lot of them.”
In 2000, low-doc and non-conforming loans accounted for less than 0.5 per cent of the market. Since then, growth has been rapid.
Low-document loans now account for 10 per cent of all mortgage approvals and non-conforming loans 2per cent, according to a joint submission by the RBA and Australian Prudential Regulatory Authority to the parliament economics and finance committee inquiry into home lending.
Property investment consultant Michael Yardney of Metropole says when non-bank lenders first launched low- and no-document products, they were at loan-to-valuation ratios of 60 to 70 per cent and were charged at a higher interest rate than prime mortgages.
Until recently these products were competitive with prime mortgage rates although that could be changing now as funding costs increase for some non-banks.
Yardney says a rise in interest rates does not affect his strategy for building large portfolios as detailed in his book, How to Grow a Multi-Million Dollar Property Portfolio.
He says his strategy has a financial buffer built in to cover unforeseen circumstances and interest payments over a number of years.
“You have to allow a buffer,” he says. “You shouldn’t be living at the edge. Yes, you will have to pay more (interest) … Is it time to leave property? No.”
He says the recent interest rate increase, and the prospect of another before the year is out, doesn’t change the property market’s fundamentals.
“I believe periods of uncertainty give opportunities to people with a long-term view. It is not a bad time to invest on the east coast of Australia.” But Yardney says that it is definitely time to re-evaluate investment and financing strategies, in particular.
“You have got to reassess your strategy and you have got to move with the market.”
One option is to try to fix rates. Others may want to stick with lenders such as GE, which owns Wizard and has a AAA credit rating, or the mainstream banks that have high ratings and thus a lower cost of capital than non-banks.
Rolf Schaefer, director of broker, RJA Financial Services, says he had two property investors pulling out of a RAMS loans last week.
He says he prefers to put clients into higher-rated institutions such as Macquarie Bank, Commonwealth Bank, Westpac and Homeloans Ltd.
“They have always been our preferred suppliers for low-doc loans. We never used RAMS to a large extent because they have got high break fees,” he says.
Break fees can be up to 2 per cent with lenders such as Bluestone and RAMS, meaning that on a $500,000 mortgage it could cost up to $10,000 to get out. And, while Macquarie and Myrate have nil application fees, many others cost from $600 upwards.
“I certainly wouldn’t be saying to people that they should be terminating their loan,” Johnstone says. “If lenders are increasing their rates to 0.5 per cent above the market rate then it may be worth refinancing.
“I would be certainly speaking to your mortgage broker first and have them work out how much you will be saving by making the move as opposed to how much your early-termination fees would be.”