How “mortgage prisoners” can taste freedom

Bruce Brammall, The Australian, 23 July, 2023

Life would be so much easier if history read a little more like “An Idiot’s Guide to the Future”.

Arguably it should. I mean, how many different variations of “mistakes” and “stupid” and “avoidable errors” can life hold?

Homeowners would certainly love a reliable playbook to deal with the crushing pressure many are now facing.

When bad stuff happens, history shows you should do this good thing. When faced with “Issue A”, you should respond with “Reaction B”.

When it comes to learning from the past, I’m not sure whether I’m more Split Enz’s claim that “history never repeats”, or Shirley Bassey’s bold assertion “this is all just a little bit of history repeating”.

“Yes, I’ve seen it before! And I’ll see it again!” Miss Bassey bellowed.

So, here in mid-2023, it’s reading, financially, like a hot mess.

Interest rates are terrorising many with big mortgages. Inflation’s engine is running as hot as the bonnet on a Datsun 180B.

Unemployment is low. Oil prices are high. Property prices, bizarrely, after significant falls, have been rebounding. (Or is this a dead cat bounce?)

This generation’s mums and dads are really feeling the pinch in the home budget, in a way not seen for more than a generation.

Homeowners are being squeezed. Sure, some are doing fine. But interest rate increases are designed to put pressure on them and no-one could argue it’s not not working.

That’s generated a few things that we haven’t seen before historically. We now have this virtual event/place known as the “mortgage cliff” and a class of homebuyers known as “mortgage prisoners”.

The way interest rates have moved this time is certainly not a case of history repeating. Official rates went from a ridiculous place they’d never been before, effectively zero (0.1 per cent), to 4.1 per cent, via 12 hikes in 13 months.

The impact of this on today’s homebuyers beats what older generations claimed was nasty with 17 per cent interest rates in 1989, because they were coming off a higher relative base of 12 per cent.

We are watching something happen for the first time. The steepest rates incline anyone alive now with a mortgage has seen was back just before the GFC, when interest rates were increased seven times in 22 months to March 2008, each time by 0.25 per cent.

Same playbook?

From a homeowner’s perspective, however, the playbook for dealing with interest rate rises is always fairly similar. Reduce frivolous spending first, then review the general household expenses to see what can be purged.

But some “rules” this time around didn’t exist last time. And that means  reactions have to be different.

One specific difference is APRA’s rules around “servicing buffers”. When a bank lends to a homebuyer, they have to add 3 per cent to the current interest rates, to see if the customer could still afford the loan.

That is, if interest rates are 5 per cent, the bank needs to stress test your household budget to see if you could still afford the loan if interest rates were to increase to 8 per cent.

If they deem you couldn’t afford the loan with the higher rate, the bank has to reject your loan.

Sticking point

There is no problem when interest rates are falling. And when interest rates rise marginally, it shouldn’t cause too many problems either.

But after the steep increases during this tightening cycle, hundreds of thousands of borrowers are now finding that they can’t switch banks. Even when they can see a cheaper rate or a better deal at another lender, many are stuck with their current bank, because they can’t meet the servicing buffer.

It’s this APRA requirement that has led to this class of borrowers who are now known as “mortgage prisoners”.

But in an interesting development, some lenders have started rewriting the rules, in ways that could help some mortgage prisoners get to better deals at new lenders.

Slashing servicing

Under watch from APRA, lenders are being allowed to adjust their policies to help mortgage prisoners switch banks.

Broadly, a growing number of lenders are dropping the “servicing buffer” to 1 per cent for clients who meet strict definitions.

It’s only available for refinancing (that is, not people wanting to borrow new money), the borrower must have a clean credit history for the last 12 months, including being up to date with their mortgage and their financial position hasn’t deteriorated (such as reduced income, or taken on extra debt) in that time.

Generally, the borrower can’t be trying to get extra credit from the arrangement (getting a bigger loan), or be requiring “lenders mortgage insurance” to get the loan approved. That is, they can’t be borrowing more than 80 per cent of the value of the property being refinanced.

Sharpen the pencil

It started with one lender a few months ago. By early June, there were a handful of lenders who’d changed their lending criteria.

The list is rapidly expanding through competitive pressure. Lenders that don’t are likely to lose customers.

But moving to a new bank should rarely be the first option for homebuyers. Getting a new loan can be a difficult and frustrating.

Your first effort should always be to screw your bank for a better rate, get them to sharpen their pencil.

Banks know it’s more profitable to keep an existing client than to find a new one, so are more likely to give you a more competitive rate if they think you’re a flight risk.

Hit them up for a better rate. If you’ve got a mortgage broker, get them to do it for you. They’re more likely to be successful, because when a broker puts in what’s known as a “pricing request”, the bank knows the broker is likely to move the business if unsuccessful.

It’s no guarantee that mortgage prisoners will be able to escape their current bank, but the expanding list of banks that have lowered the servicing buffer to 1 per cent to help people refinance is a big potential win for those who haven’t been able to secure better, or at least reasonable, terms with their current bank.

Atop the cliff

It will potentially also help those who are still coming off fixed rate loans they secured at the bottom of the interest rate market cycle.

A lot of Aussies made a smart decision to fix their interest rates for two to four years in 2020 and 2021, putting them thousands of dollars ahead of where they would be if they had ridden the variable rate wave higher.

But it led to a fear of a “mortgage cliff” that economists have been warning about. When these borrowers come off their fixed rate loans onto much higher variable rates, “they’re gonna be in trouble”.

When borrowers come off fixed rates, they are often dumped onto variable rates that are uncompetitive. From that point, they would need to fight to get a better rate with their bank. For the bank, if the borrower doesn’t ask, they don’t offer, leaving them more profitable.

Some major bank chief executives have said recently that those whose fixed rates were ending have adjusted to new higher variable rates quite well and surprisingly few of them were showing signs of financial stress.

It shouldn’t be that surprising. These borrowers had plenty of time to prepare. And were clearly smart enough to do so.

But they still might have found themselves on an ordinary interest rate when they came off.

Go back, either personally or via your mortgage broker, and demand a better rate.

If you don’t get something that’s competitive, then potentially using the new rules designed to help mortgage prisoners could also be an option for you to get to a lender that will value your custom more.

Avoid the pain

While it has become easier in the last decade, leaving a bank can be time-consuming.

While it’s easy to look up what banks are offering, it doesn’t mean you will meet the bank’s policies for approval of a loan. If that time isn’t something you’ve got a lot of to spare, given careers and kids, get a mortgage broker on your team.

You’ll have enough work to do redirecting all of your payments once at a new lender.

But don’t pay the banks a higher interest rate than you need to. They’re certainly profitable enough.

Bruce Brammall is both a financial adviser and mortgage broker and author of books including Debt Man Walking. E:

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