The fear of missing out makes people do strange things with their finances. When we tell clients to borrow less, we’re met with incredulous looks.
For example, we had a client recently who had a $700k mortgage on a home worth around $1 million in a Sydney suburb. The client wanted to acquire a better home for around $1.6M. The difference would be funded with debt. With Stamp duty, LMI and other costs, the new debt would be around $1.4 million. The salary of the borrower was $150k.
There are a number of things to point out about the above:
- If the borrowing was approved, the client would in fact have $100k less equity than they currently have (this is in large part due to acquisition costs of stamp duty and LMI).
- The borrower would be under immediate stress.
- The euphoria of the successful purchase would turn to dust as monthly repayments approached.
Firstly, let me stress that this client is not alone. The above is not the most severe example that I could have shown it’s merely an average. An unhappy median if you will.
We still get calls from borrowers wanting to borrow 100% of the acquisition costs. In some cases (very few) this might be appropriate – particularly if the borrower has sufficient equity in other assets – but in most cases, it’s sadly a hopeful inquiry by potential first time buyers.
As much as we would love to assist, we have to politely decline.
The newspapers have been full of articles about negative gearing. The discussion has been going on since Moses was in shorts. All of it is just newspaper space. Just remember this. In a normalised residential property market where the price of housing is stagnant or rising by less than the inflation rate (like now), you probably have a negative yield. So why would you borrow against this investment now?
Negative gearing is great in a boom where the shortfall in the yield is more than made up for in capital gains. But not now.
With the clamp down by banks on LVR and servicing, some investors who in the past would ride the property wave up, have the property revalued and borrow (up to 90%) against the new valuation to fund a new purchase have had their wings clipped.
These investors are being subjected to the new servicing and lower LVR requirements by lenders that not only reduces the amount of rental income to be used but where once all PAYG income could be used, many lenders are now no longer considering things like bonuses and commissions.
When lenders decline the application, the client’s anger is then directed to the broker, despite warnings that the lender may not approve. We then work furiously to ensure that the lender has not altered the borrowers credit records.
So, if your broker warns you that approval may be difficult, take heed. The broker makes no money if your mortgage is not approved. Worse still, you are left dissatisfied.
But perhaps it’s better to be dissatisfied than be placed under years of mortgage stress.