Last week the Reserve Bank of New Zealand (RBNZ) announced it was undertaking a review of bank capital adequacy requirements for “residential property investors”.
It’s a move aimed at cooling the rampant housing market.
Here at home the RBA aired its continuing disquiet about the property price rises, especially in Sydney, in the Governor’s statement after last week’s decision to hold rates at 2.25%.
Credit is recording moderate growth overall, with stronger growth in lending to investors in housing assets. Dwelling prices continue to rise strongly in Sydney, though trends have been more varied in a number of other cities over recent months. The Bank is working with other regulators to assess and contain risks that may arise from the housing market.
Australia’s prudential regulator (APRA) is also worried and has set a limit on investment loans at 10% of all loans.
But data from the Reserve Bank shows that this limit has already been breached with investment lending up 10.1% in the 12 months to the end of January. UBS chief economist Scott Haslem says that’s important because “unbalanced nature of the housing market will likely increase the scrutiny on the macro-prudential policy response of the RBA (and APRA/Treasury) to contain risks in the housing market.”
Indeed it may.
But while the RBA and RBNZ play with limits on loans or increased capital charges for banks, based on the “type” of lending, the banking boffins in Basel have already struck on the answer to this ANZAC housing problem.
The Basel Committee for Banking Supervision (BCBS) also wants to look more closely at the capital held against mortgages. But more importantly, in the context of the Australian and New Zealand housing market, is that the BCBS wants to change the way serviceability is measured for investors.
Here’s how it works.
When an investor sits down with their bank manager, broker, or mobile lender, the BCBS wants serviceability – the borrower’s ability to repay the principal and interest on the loan – to be based on a narrower version of “income”.
That is, they don’t want investors to be able to rely on the rent as part of their income test. As it stands at the moment, banks allow the rent on the property, or indeed properties for multiple owners, to be included in “income” when calculating the investor’s ability to repay the loan.
But the BCBS says, in a discussion document released in December, that the new standard for establishing serviceability should be calculated without rental income.
Total income must be net of taxes and prudently calculated, including a conservative assessment of the borrower’s stable income and without providing any recognition to rental income derived from the property collateral.
The RBA and RBNZ would do well to consider this approach.
Capital charges and limits will incentivise the banks to be a little more prudent. But there are many other lenders in the market who may still be able to extend the loan if turned down by another lender.
But by changing the way income is calculated, APRA, the RBA and RBNZ can truly change the behaviour of investors.
If you can’t service, you can’t borrow.