These loans are often used by investors to enhance their negative gearing tax deductions, but have become increasingly popular with owner-occupiers because of the lower up-front repayments. Interest-only loan a no-go zone
The anomaly was that the bank regulator APRA's data showed that more than 35 per cent of new loans over the past year had been interest-only, but only 24 per cent of survey respondents told UBS they had taken out an interest-only loan.
Initially, UBS thought it must be a sampling problem with their survey, but the chances of this producing such a big difference were just 0.1 per cent.
That led the bank's analysts to the shocking conclusion that almost a third of interest-only (IO) home loan customers might not realise they have taken out that kind of mortgage.
"We are concerned that it is likely that approximately one-third of borrowers who have taken out an IO mortgage have little understanding of the product or that their repayments will jump by between 30-60 per cent at the end of the IO period," UBS wrote. 4 Oct Michael Janda
Leon Jones @LeonJonesAU
I recently had this situation with a new client. They could not recall their broker explaining to them that repayments were interest only 2:40 PM - Oct 4, 2017
While the result surprised the analysts themselves, they argue that there is already a lot of evidence that many Australians have a poor understanding of financial products.
"Although this may seem farfetched it needs to be considered in the context of the lack of financial literacy in Australia," UBS observed.
"A recent survey from S&P found 36 per cent of Australians were not financially literate, while ME Bank's survey found 42 per cent did not understand compound interest and 38 per cent had no understanding of an IO mortgage." Rising repayments could see spending cuts, housing sell-off
The economic consequences of these actions could be significant.
With $640 billion of interest-only loans outstanding, UBS estimated that a switch to principal and interest repayments could cost Australian households around $10-15 billion a year in higher repayments. Murphy's Law forecast
It describes this impact as "modest" and likely to be spread over several years.
However, UBS warned that a bigger effect may be a stagnation in home prices once consumers are unable to keep borrowing larger amounts due to the regulatory limits on interest-only loans.
"We think the larger and broader implication for the economy of these trends is the indirect lagged impact of current macroprudential tightening on the flow of housing demand, which will likely see flatter house price growth ahead, which will drag on consumption growth via the 'household wealth effect'," UBS forecast.
Rising home prices have encouraged many households to lower their savings rate to maintain or increase their purchases of goods and services — UBS is concerned that stagnant or falling home prices will reverse this trend, hitting consumption, economic growth and employment.
mce-anchor Topics:banking, housing-industry, consumer-finance, consumer-protection, australia
First posted Wed at 11:34am Print Email Facebook Twitter More HAVE YOUR SAY
PHOTO: Rates have risen by nearly half a percentage point on interest-only owner-occupier loans. (AAP: Dan Peled)
Michael Janda
Leon Jones @LeonJonesAU
PHOTO: Banks have increased interest-only home loan rates over the past year. (Supplied: UBS)
PHOTO: UBS found that 71 per cent of recent interest-only borrowers already under financial stress. (Supplied: UBS)
PHOTO: UBS found most households would cut other spending to cope with rising mortgage repayments. (Supplied: UBS)
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