APRA Drop the floor!
If you have been keeping your eye on the news, you would have seen that the banking regulator APRA is proposing to scrap of the rules that it imposed on the banks back in 2014. This was the start of the macroprudential regulations being implemented to slow down credit growth specifically in the investment space, and contain soaring house prices . Currently deposit taking institutions (ADI’s) must ensure that the borrower can afford the loan repayments at a ‘floor rate’ of 7% minimum or buffer of 2% above the actual rate. There was also an expectation that the ADI’s would be prudent and use a rate above the minimum, therefore the majority have adopted the rate of 7.25%. Let me demonstrate how that looks on a $300,000 mortgage, with a term of 30 years and principle and interest repayments;
- Actual monthly repayment at 4% = $1,432
- Minimum servicing rate of 7% = $1,996
- Bank adopted servicing rate = $2,047
- Difference between actual and banks servicing rate = $615
Essentially what the buffer is there to do is to ensure that if interest rates were to increase up to 7.25%, then the borrower would still be able to afford the repayments.
The new proposal outlined in a letter to the ADI’s on 21st May, APRA is removing the 7% floor rate leaving ADI’s to set their own minimum floor rate. However, they are increasing the buffer to 2.5%. In the example used above, the minimum servicing rate to be used in the assessment would be 4% (the actual rate) + 2.5% (the buffer) = 6.5%. This would mean that instead of the borrower having to show that they could afford a repayment of $2,047, they now only need to service a repayment of $1,896.
So what does this mean for the future of lending?
If people have more money in their pocket, more disposable income to service a loan, then they can borrow a larger loan ie increasing their maximum borrowing capacity. This could have a knock on affect to the restrictions we are currently seeing on credit availability, opening up the flood gates and potentially reinvigorating the property market.
APRA Chair Wayne Byres said “With interest rates at record lows, and likely to remain at historically low levels for some time, the gap between the 7 per cent floor and actual rates paid has become quite wide in some cases – possibly unnecessarily so.
“In addition, the introduction of differential pricing in recent years – with a substantial gap emerging between interest rates for owner-occupiers with principal-and-interest loans on the one hand, and investors with interest-only loans on the other – has meant that the merits of a single floor rate across all products have been substantially reduced.”
It is expected that the official implementation of these changes will take place shortly after the end of APRA’s 4 week consultation on the 18th June.
It will be interesting to see how the banks react, will they all jump? Will they have different floor rates? Will they take advantage of the situation to be able to lend more? Only time will tell.
If you would like to know what your maximum borrowing capacity is, complete the ‘Get in touch’ box to book a time for a consultation.