APRA to remove interest only benchmark for mortgage lending

[Guest Carol from Vista Financial]

The Australian Prudential Regulation Authority (APRA) today announced that as of 1 January 2019 it will lift the supervisory cap it placed on interest only lending.

So what does this even mean?

First things first, who is APRA?

APRA is one of the regulators in charge of monitoring financial institutions and basically keeping them in check. You may have noticed them in the spotlight in the Banking Royal Commission and copping a fair amount of criticism for basically coming across as being asleep at the wheel. Given the things that have come to light this is not really surprising.

The general impression is they haven't been doing a very good job (i.e. a lot of wet lettuce leaf slapping - a.k.a. "enforceable undertakings"). But they have tried to put some things in place to try help.

One of which was recognising we have way too much household debt (one of the highest in the world) and in particular zeroing in on the high proportion of interest only loans and associated questionable lending practices. If you're paying interest only, you're not reducing that debt, and it stays high. You might be reducing debts else where and taking advantage of tax breaks yes, but if things go south and you have to repay the debt, then you might be in a pickle. If lenders give you money you can't actually afford to repay then you might in a pickle. We want to avoid widespread financial pickles.

To try reel this in, APRA announced a cap for interest only lending in March 2017 that all authorised deposit-taking institutions (ADI's) had to meet (read: people that lend us money who are regulated - full list here). The cap was 30% of all new lending, along with some extra 'don't be too risky' clauses.

Did it work and what does it mean now it's being lifted?

Low and behold how do you reduce the number of people applying for interest only loans/staying on them? You make it expensive.

Fast forward to today, interest only rates are much higher than principal and interest rates. As result, people either haven't applied, don't meet the servicing criteria, have switched to principal and interest repayments, or have sold. For those that didn't, they've now paid ADI's a pretty penny.

But this hasn't been the only thing changing in the industry - lending criteria is tighter than ever, lenders are scrambling in the wake of the Royal Commission, house prices are changing, interest rates are historically low etc. ADI's are now "... significantly below the 30 per cent threshold"  so they've decided to lift this cap in the New Year and will review how things are tracking later in 2019.

One may hope we would see some reprieve in the interest only rates and appetite for this type of lending to increase again, but don't hold your breath - everyone is waiting for the final release of the Royal Commission report in February. Why make changes now when you have a reason to wait?

It's going to be an interesting start to the New Year.

Edited December 19, 2018 by Carol from Vista Financial

[Paul1Perth]

Interest only loans are a good way to get into financial strife. 

The big issue is home prices are getting beyond the average first time buyer and interest only loans are great for rich speculators and investors. Don't know why there is so much concern about property prices falling, they need a massive correction.

Edited December 19, 2018 by Paul1Perth

[Guest Carol from Vista Financial]

Hi @Paul1Perth

Interest only loans definitely have the potential to cause strife, particularly those approved in the past without assessing the capability to actually repay in the remaining term after the end of the interest only period... that has mostly been reined in now but there will be an influx of loans due to expire who will then find the repayments too high on principal and interest and unable to refinance due to the tight lending criteria. Lifting the cap may mean there is more appetite to lend on interest only but many won't be able to meet servicing criteria now anyway!

House price conversations can quickly become emotional ones for alot of people, hence I try to steer clear of them generally.

All I will say is I agree that prices certainly are making home ownership more and more difficult for first time buyers. In terms of prices Australia as a whole has many different segments and pricing trends accordingly, but generally speaking what goes up must go down (that's not new) - it's the speed and degree that this happens that varies, and nobody likes uncertainty.