Not so fast: Why the RBA may not cut rates

Not so fast: Why the RBA may not cut rates

With Sportsbet.com.au paying only $1.45 for a cut, and $2.60 for no change, you may say the smart money is on an RBA cut for tomorrow.

But with the market only pricing in a 64 per cent chance of a rate change, it’s far from a sure thing. There are likely a few questions in Glenn Steven’s mind ahead of one of his last meetings as RBA chief. 

  1.  Fear of spurring on house prices further

Australia’s two biggest cities have very high house prices. Exorbitantly high in some areas of Sydney, with prices up another 9 per cent in the year to July 31. That’s around 80 per cent growth since the slight breather they took during the GFC. Most of the growth was in the last few years. 

On the other hand, there’s Perth down 5.61 per cent and Darwin down nearly 8 per cent. Hobart is only up 2.3 per cent in the seven and a half years since the GFC. Even with today’s abysmally low term deposit rates, you’re still able to get that return in a year, government guaranteed. Australia’s housing market is a mixed bag, but one thing is for sure – in the absence of other factors, RBA cuts encourage people to borrow more, and this drives up prices.

The saving grace here is thanks to the RBA’s mates over at APRA, the banks are already reining in investor and low deposit lending, which are the two hot topics as far as house prices go. If you live in your property and have more than 20% equity, based on current deals in market 98.67% of the last 3 RBA cuts have been passed on to you (if your lender didn’t – time to look elsewhere!).

In contrast, if you’re an investor with only 5 per cent equity, you will have missed out on 44 per cent of those cuts, by way of lenders starting to charge more for investors and people with low deposits. We’ve seen the emergence of the ‘Ideal Borrower’, and they’re getting rates 0.33 per cent lower on average than less than ideal borrowers. The banks have been doing this over the past year as a result of stern warnings from APRA about shoring up their balance sheets and limiting their growth in investor lending to 10 per cent at most. They do this by charging more for the less than ideal borrowers, and offering extra hot rates to their ideal borrower. 

2. Knowledge the cuts are losing their punch

We’re at historic low rates already… for Australia. Many similar countries (think Europe and Japan), are at zero or negative official interest rates.

The RBA is lucky enough to have witnessed countless other economies on their journey to zero. They’ve got there for a reason – low rates are one of the main tools available to central banks when they are looking to grow their economies.

The idea is that with lower rates, two main things happen for consumers. Firstly, you’re getting less in return for keeping your money in the bank, so you have an incentive to spend it or invest it elsewhere in the economy.

Secondly, and this is a big factor for our property-obsessed economy and variable rate normal home loans, with lower rates, people pay less on their mortgage and have more money to spend elsewhere. Or you can put in back into your home loan to pay it down much quicker. Either way, the more spare cash / less debt situation is aimed to get you spending more, sooner. 

The problem for the RBA here is that each extra cut has a little less impact on the economy, and as they approach zero, there’s less of them in the tank for future use.

The RBA has been slowly trimming rates for a long time now, and consumers have learned that this is generally the sign of a weak economy, be it local or global. We saw a double cut of -0.50 per cent in May 2012 and multiple full 1.00 per cent cuts when the GFC was peaking back in late 2008 / early 2009.

With a current RBA rate of 1.75 per cent, they know they have to use each cut increasingly wisely. This adds up to a growing hesitation to cut in any given month, and this applies to the August meeting as much as any.

What does this mean for borrowers?

 Regardless of what the RBA decides to do, there’s some lessons in there for borrowers, and potential borrowers.

Firstly, when searching for property and weighing up whether to take on a new home loan, make sure you have a close look at what the market you’re buying into has been doing, to help work out what it’s going to do in your first few critical years of a home loan – where debt is high and only a small portion of your repayments go towards paying down that debt (most will go towards covering the interest).

Secondly, if you’re an ‘ideal borrower’ (remember: living in the property, with 20% or more equity), you’re hot property for lenders so make sure you’re getting a good deal – look for under 4 per cent even before any more RBA cut.

Finally, gone are the days you need to wait for the RBA to give yourself a rate cut. There’s over 100 lenders out there and they set rates based on a range of factors, the RBA is only one of these. Lenders are actively on the hunt for new customers, offering extra low rates to get you in the door.

At very least, compare what rates are available, arm yourself with the right info and get on the phone to your lender. It could be a very valuable phone call, and be ready to switch if you don’t think you’re being looked after.

If you’re on an average rate, switching to one of the lowest rates on the market will give you 3 RBA cuts or more all in one go, and that’s before Tuesday’s meeting even starts.

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Cash or mortgage – which is more suitable to buy an investment property?

Deciding whether to buy an investment property with cash or a mortgage is a matter or personal choice and will often depend on your financial situation. Using cash may seem logical if you have the money in reserve and it can allow you to later use the equity in your home. However, there may be other factors to think about, such as whether there are other debts to pay down and whether it will tie up all of your spare cash. Again, it’s a personal choice and may be worth seeking personal advice.

A mortgage is a popular option for people who don’t have enough cash in the bank to pay for an investment property. Sometimes when you take out a mortgage you can offset your loan interest against the rental income you may earn. The rental income can also help to pay down the loan.

When does Commonwealth Bank charge an early exit fee?

When you take out a fixed interest home loan with the Commonwealth Bank, you’re able to lock the interest for a particular period. If the rates change during this period, your repayments remain unchanged. If you break the loan during the fixed interest period, you’ll have to pay the Commonwealth Bank home loan early exit fee and an administrative fee.

The Early Repayment Adjustment (ERA) and Administrative fees are applicable in the following instances:

  • If you switch your loan from fixed interest to variable rate
  • When you apply for a top-up home loan
  • If you repay over and above the annual threshold limit, which is $10,000 per year during the fixed interest period
  • When you prepay the entire outstanding loan balance before the end of the fixed interest duration.

The fee calculation depends on the interest rates, the amount you’ve repaid and the loan size. You can contact the lender to understand more about what you may have to pay. 

Why does Westpac charge an early termination fee for home loans?

The Westpac home loan early termination fee or break cost is applicable if you have a fixed rate home loan and repay part of or the whole outstanding amount before the fixed period ends. If you’re switching between products before the fixed period ends, you’ll pay a switching break cost and an administrative fee. 

The Westpac home loan early termination fee may not apply if you repay an amount below the prepayment threshold. The prepayment threshold is the amount Westpac allows you to repay during the fixed period outside your regular repayments.

Westpac charges this fee because when you take out a home loan, the bank borrows the funds with wholesale rates available to banks and lenders. Westpac will then work out your interest rate based on you making regular repayments for a fixed period. If you repay before this period ends, the lender may incur a loss if there is any change in the wholesale rate of interest.

How much deposit do I need for a home loan from ANZ?

Like other mortgage lenders, ANZ often prefers a home loan deposit of 20 per cent or more of the property value when you’re applying for a home loan. It may be possible to get a home loan with a smaller deposit of 10 per cent or even 5 per cent, but there are a few reasons to consider saving a larger deposit if possible:

  • A larger deposit tells a lender that you’re a great saver, which could help increase the chances of your home loan application getting approved.
  • The more money you pay as a deposit, the less you’ll have to borrow in your home loan. This could mean paying off your loan sooner, and being charged less total interest.
  • If your deposit is less than 20 per cent of the property value, you might incur additional costs, such as Lenders Mortgage Insurance (LMI).

How much deposit will I need to buy a house?

A deposit of 20 per cent or more is ideal as it’s typically the amount a lender sees as ‘safe’. Being a safe borrower is a good position to be in as you’ll have a range of lenders to pick from, with some likely to offer up a lower interest rate as a reward. Additionally, a deposit of over 20 per cent usually eliminates the need for lender’s mortgage insurance (LMI) which can add thousands to the cost of buying your home.

While you can get a loan with as little as 5 per cent deposit, it’s definitely not the most advisable way to enter the home loan market. Banks view people with low deposits as ‘high risk’ and often charge higher interest rates as a precaution. The smaller your deposit, the more you’ll also have to pay in LMI as it works on a sliding scale dependent on your deposit size.

How much of the RBA rate cut do lenders pass on to borrowers?

When the Reserve Bank of Australia cuts its official cash rate, there is no guarantee lenders will then pass that cut on to lenders by way of lower interest rates. 

Sometimes lenders pass on the cut in full, sometimes they partially pass on the cut, sometimes they don’t at all. When they don’t, they often defend the decision by saying they need to balance the needs of their shareholders with the needs of their borrowers. 

As the attached graph shows, more recent cuts have seen less lenders passing on the full RBA interest rate cut; the average lender was more likely to pass on about two-thirds of the 25 basis points cut to its borrowers.  image002

What are the pros and cons of no-deposit home loans?

It’s no longer possible to get a no-deposit home loan in Australia. In some circumstances, you might be able to take out a mortgage with a 5 per cent deposit – but before you do so, it’s important to weigh up the pros and cons.

The big advantage of borrowing 95 per cent (also known as a 95 per cent home loan) is that you get to buy your property sooner. That may be particularly important if you plan to purchase in a rising market, where prices are increasing faster than you can accumulate savings.

But 95 per cent home loans also have disadvantages. First, the 95 per cent home loan market is relatively small, so you’ll have fewer options to choose from. Second, you’ll probably have to pay LMI (lender’s mortgage insurance). Third, you’ll probably be charged a higher interest rate. Fourth, the more you borrow, the more you’ll ultimately have to pay in interest. Fifth, if your property declines in value, your mortgage might end up being worth more than your home.

How much deposit do I need for a home loan from NAB?

The right deposit size to get a home loan with an Australian lender will depend on the lender’s eligibility criteria and the value of your property.

Generally, lenders look favourably on applicants who save up a 20 per cent deposit for their property This also means applicants do not have to pay Lenders Mortgage Insurance (LMI). However, you may still be able to obtain a mortgage with a 10 - 15 per cent deposit.  

Keep in mind that NAB is one of the participating lenders for the First Home Loan Deposit Scheme, which allows eligible borrowers to buy a property with as low as a 5 per cent deposit without paying the LMI. The Federal Government guarantees up to 15 per cent of the deposit to help first-timers to become homeowners.

Does Australia have no-deposit home loans?

Australia no longer has no-deposit home loans – or 100 per cent home loans as they’re also known – because they’re regarded as too risky.

However, some lenders allow some borrowers to take out mortgages with a 5 per cent deposit.

Another option is to source a deposit from elsewhere – either by using a parental guarantee or by drawing out equity from another property.

What is a low-deposit home loan?

A low-deposit home loan is a mortgage where you need to borrow more than 80 per cent of the purchase price – in other words, your deposit is less than 20 per cent of the purchase price.

For example, if you want to buy a $500,000 property, you’ll need a low-deposit home loan if your deposit is less than $100,000 and therefore you need to borrow more than $400,000.

As a general rule, you’ll need to pay LMI (lender’s mortgage insurance) if you take out a low-deposit home loan. You can use this LMI calculator to estimate your LMI payment.

Will I have to pay lenders' mortgage insurance twice if I refinance?

If your deposit was less than 20 per cent of your property’s value when you took out your original loan, you may have paid lenders’ mortgage insurance (LMI) to cover the lender against the risk that you may default on your repayments. 

If you refinance to a new home loan, but still don’t have enough deposit and/or equity to provide 20 per cent security, you’ll need to pay for the lender’s LMI a second time. This could potentially add thousands or tens of thousands of dollars in upfront costs to your mortgage, so it’s important to consider whether the financial benefits of refinancing may be worth these costs.

How much debt is too much?

A home loan is considered to be too large when the monthly repayments exceed 30 per cent of your pre-tax income. Anything over this threshold is officially known as ‘mortgage stress’ – and for good reason – it can seriously affect your lifestyle and your actual stress levels.

The best way to avoid mortgage stress is by factoring in a sizeable buffer of at least 2 – 3 per cent. If this then tips you over into the mortgage stress category, then it’s likely you’re taking on too much debt.

If you’re wondering if this kind of buffer is really necessary, consider this: historically, the average interest rate is around 7 per cent, so the chances of your 30 year loan spending half of its time above this rate is entirely plausible – and that’s before you’ve even factored in any of life’s emergencies such as the loss of one income or the arrival of a new family member.

How can I avoid mortgage insurance?

Lenders mortgage insurance (LMI) can be avoided by having a substantial deposit saved up before you apply for a loan, usually around 20 per cent or more (or a LVR of 80 per cent or less). This amount needs to be considered genuine savings by your lender so it has to have been in your account for three months rather than a lump sum that has just been deposited.

Some lenders may even require a six months saving history so the best way to ensure you don’t end up paying LMI is to plan ahead for your home loan and save regularly.

Tip: You can use RateCity mortgage repayment calculator to calculate your LMI based on your borrowing profile

What do people do with a Macquarie Bank reverse?

There are a number of ways people use a Macquarie Bank reverse mortgage. Below are some reasons borrowers tend to release their home’s equity via a reverse mortgage:

  • To top up superannuation or pension income to pay for monthly bills;
  • To consolidate and repay high-interest debt like credit cards or personal loans;
  • To fund renovations, repairs or upgrades to their home
  • To help your children or grandkids through financial difficulties. 

While there are no limitations on how you can use a Macquarie reverse mortgage loan, a reverse mortgage is not right for all borrowers. Reverse mortgages compound the interest, which means you end up paying interest on your interest. They can also affect your entitlement to things like the pension It’s important to think carefully, read up and speak with your family before you apply for a reverse mortgage.