The looming home loan risk keeping property experts up at night

The share of risky lending has dropped in recent months, new figures show, after rising interest rates made it harder to borrow large sums relative to incomes.

But concerns loom for the recent home buyers who borrowed at rock-bottom fixed interest rates and will face higher mortgage repayments when they refinance next year.

During the property boom, almost a quarter of new home borrowers were taking on large debts of six times their incomes or more.

The share of new lending at high debt-to-income ratios has fallen 7.2 percentage points from its peak in the December quarter of last year, to 17.1 per cent in the September quarter of 2022, figures from bank regulator the Australian Prudential Regulation Authority show.

When prices were rising last spring, but interest rates were seen as unlikely to rise for years, then-treasurer Josh Frydenberg backed regulators to clamp down on high-debt home loans instead.

But the cash rate rose sooner than expected in May, reducing the amount of money that home buyers could borrow.

AMP Capital chief economist Dr Shane Oliver said the fall in risky lending was good news.

“Last year, in the midst of the property boom, there was a concern that people were taking out more risky loans, given the surge in prices,” he said.

Soon after, banks were forced to check whether borrowers could repay their loans if interest rates rose 3 per cent, up from the previous test of 2.5 per cent.

“At the time there was a feeling that the central bank should raise interest rates, but it was seen as premature,” Oliver said, adding these other tools were considered to take heat out of the property market.

The share of risky lending has fallen.
The share of risky lending has fallen.CREDIT:NIKKI SHORT

“Things moved fairly quickly and we moved towards a big rise in interest rates, and so that’s been doing the job for them, they haven’t had to do more macroprudential controls.

“When interest rates are higher, regardless of your income you can’t borrow as much as you previously could and so the outworking tends to be smaller loans relative to people’s incomes.”

He said falling property prices were also helping to reduce the amount of money buyers needed to borrow to purchase a home.

Now, the biggest risk in the eyes of the regulator is not today’s borrowers, who cannot borrow as much because they face higher interest rates.

“They’d probably be worried about existing borrowers, particularly people on the ultra-low fixed rates from the last couple of years,” he said.

“We’ve raised rates 3 per cent, so anyone borrowing from October last year on a variable rate would be at the limit of the serviceability test. Anyone who borrowed before that would have gone above it.”

He said unemployment is still low, meaning the regulator may not be overly concerned right now, but this could change if unemployment starts to rise.

Shore Financial chief executive Theo Chambers said many home buyers are still trying to borrow to their limit, but banks will not lend large amounts easily.

“People are still borrowing six times their incomes, they’re still trying to squeeze every possible mechanism to get the bank to lend,” he said.

“Of course, the banks make you jump through hoops and especially at the moment, more than ever.”

Some banks are adjusting how they factor in the rising cost of living, or how they assess income received in the form of bonuses, he said.

“Banks are definitely going a bit more cautious.”

Chris Foster-Ramsay, principal broker at Foster Ramsay Finance, said it had become less common for borrowers to take out large loans compared to their incomes, after the regulator put pressure on lenders.

Rising interest rates had also reduced borrowing capacity, which solved the problem of large loan sizes.

“Rates go up, borrowing capacity goes down, by default debt-to-income remains, in most cases, not an issue,” he said.

“They still want to borrow as much as possible to buy the property that’s near family, or the shops or schools, they don’t want to move out of the area. That hasn’t changed in the last six to 12 months.”

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