CHOICE says high-risk home loans can leave your whole family out in the cold
7 May 2014
Just six years after poor lending practices contributed to a global financial crisis, three high-risk borrowing strategies are back on the market to tempt those struggling to raise the deposit for a home loan.
Low-deposit loans, family guarantees and 40-year loans are financial products that make it easier to take the leap from renting to home ownership, but they can also pose significant risks.
"During the global financial crisis people were hard pressed to get a home loan approval unless they had a significant deposit. Now RAMS is offering a low-deposit loan combined with a guarantee that allows you to borrow a staggering 120% of the value of your home," says CHOICE Head of Media Tom Godfrey.
"Worryingly there has been a strong demand for these high-risk loans with one in three new home loan borrowers putting up less than the 20% normally required."1
"We are seeing products that offer family guarantees and low loan-to-value-ratio loans to consumers who don't have a significant deposit."
"While the prospect of owning a home when you have little in the way of savings may seem appealing, if you lose your job, get sick or are unable to keep up with the repayments, it may not be long before the bank asks you to sell your house, or repossess it."
"Getting a family member to guarantee all or part of your home might seem like a good idea for some borrowers as a way of avoiding lender's mortgage insurance. However, the potential downside side risk for your family member is significant because if you are unable to make repayments on your home loan they may lose their house as well."
"For elderly parents who are no longer in the workforce and worked all their life to finally own their home, this is a high-risk strategy and can be devastating if things go wrong."
"Of the three strategies, 40-year loans are the riskiest. Taking a 40-year loan because you can't afford monthly repayments for a 30-year loan can backfire if your interest rate goes up again."
"The difference between a 30 and 40-year loan on a $300,000 home is $140,800 in extra interest.2 Repayments are only $4.88 per day more for a 30 year loan, the equivalent to a daily large coffee."
"The average interest rate for standard home loans over the last 20 years has been 7.6% compared to 5.9% today. Be prepared for rates to go up."
- Check if you can afford rates increasing by three percent.
- Consider fixing part of your loan, called a split loan. You can make extra payments into the variable portion of the loan.
- Don't try beating the bank. Even economists are often wrong when predicting long-term interest rate movements.
- If you're thinking about providing a family guarantee for someone, consider alternatives and important factors such as:
- taking an unsecured personal loan for the amount you want to give the person and ask them to make all or part of the repayments. The interest rate will be higher but the risks are much smaller.
- make sure you have enough savings to cover the guarantee if problems arise.
- if things go wrong, and the lender threatens to sell your house, immediately seek legal advice. If you make a complaint to the Financial Ombudsman Service or the Credit Ombudsman Service the bank has to pause the enforcement proceedings while the complaint is assessed.
CHOICE also raised these issues in its recent submission to the Federal Government's Financial System Inquiry.