The removal of LVR restrictions on new mortgage lending probably won't be much help to first home buyers in high priced areas like Auckland, Bay of Plenty, Wellington and Nelson

By Greg Ninness

House prices at the bottom end of the market declined in most parts of the country in April compared to March, as New Zealanders locked down to ward off COVID-19. Combined with ongoing falls in mortgage interest rates, the lower prices brought the goal of home ownership a step closer for aspiring first home buyers, assuming they haven't joined the lengthening unemployment queue.

The Real Estate Institute of New Zealand recorded falls in lower quartile selling prices between March and April in seven regions (Northland, Auckland, Waikato, Bay of Plenty, Canterbury, Otago and Southland), while the national lower quartile price declined from the record high $480,000 set in March to $462,000 in April.

Going against the trend lower quartile prices rose in Taranaki, Wellington and Nelson/Marlborough in April, with all three regions sitting on record highs. Lower quartile prices were unchanged between March and April in Hawke's Bay and Manawatu/Whanganui.

Prospective first home buyers would also have bene helped by ongoing falls in mortgage interest rates, with the average of the two year fixed rates offered by the major banks dropping to 3.30% in April, according to interest.co.nz’s Home Loan Affordability Reports.

That was down from 3.97% in April last year and 4.55% in April 2018.

The prevailing low interest rates kept mortgage payments on lower quartile homes affordable for first home buyers on average incomes throughout the country.

According to the Home Loan Affordability Reports, lower quartile prices in April ranged from $265,000 in Southland to $728,000 in Auckland.

That means the mortgage payments on a lower quartile-priced home in Southland would be $214.13 a week (assuming a 30 year term), which is just 13.0% of the median take home pay of couples aged 25-29 in the region assuming both work full time.

In Auckland, where house prices are highest, the mortgage payments on a lower quartile-priced home would be $588.25 a week, which is just over a third (34.3%) of the median take home pay of couples aged 25-29 in the region, also assuming both work full time.

That suggests that a mortgage for a lower-quartile priced home in Auckland should be affordable for young couples earning average rates of pay. However they would still face a major obstacle to getting their feet across the threshold of their own home – raising the deposit.

The affordability calculations above assume they would have a 20% deposit and in Auckland, housing prices are so high that would meaning raising $145,000 for the deposit on a home at the region’s lower quartile price of $728,000.

For a couple earning the median after-tax pay of $1714 a week (for 25-29 year olds) between them, who were able to set aside 20% of their take home pay every week to save for a deposit, it would take them eight years (before allowing for inflation or any interest on their savings) to accumulate a 20% deposit on an affordable home in Auckland.

Understandably, that might make the dream of home ownership seem like the impossible dream for many. The problem is not confined to Auckland either.

House prices have risen so much throughout the country over the last few years that there are now four regions where a 20% deposit on a lower quartile-priced home would be $100,000 or more – Auckland $145,000, Bay of Plenty $100,000, Wellington $117,000 and Nelson/Marlborough $118,200, which would make it extremely challenging for first home buyers on average incomes in those regions to save a deposit.

The Reserve Bank’s recent decision to scrap loan-to-valuation ratio (LVR) restrictions on new mortgage lending by banks was no doubt seen as a lifeline by many hopeful first home buyers struggling to save a 20% deposit. Unfortunately they may be disappointed. That’s because buying a home with less than a 20% deposit has a two pronged effect on mortgage payments.

The buyer has a bigger mortgage, which increases their payments, but they will also almost certainly be hit with much higher mortgage interest rates than buyers with a 20% deposit.

Most people are familiar with the low mortgage rates banks advertise to attract new business. What is less obvious is that these are usually “special” rates that are generally reserved for lower risk borrowers, typically with a minimum 20% deposit. Borrowers with less than a 20% deposit usually have to settle for mortgages with “standard” interest rates which are generally higher than the “specials” advertised by banks.

On top of that, banks usually add on a low equity premium to the mortgage interest rates they charge borrowers with less than a 20% deposit, pushing up their mortgage payments even further. The effect of this can be seen in the tables below, which compare the estimated mortgage payments for borrowers buying homes at the lower quartile prices in all regions with 20% and 10% deposits.

In Auckland, the mortgage payments on a home purchased at the lower quartile price of $728,000 with a 20% deposit ($145,600) would be around $588 a week, which would be 34.3% of the take home pay of typical first home buyers earning median rates of pay.

If they only had a 10% deposit, the amount they would need to borrow would increase from $582,400 to $655,200 and their interest rates would increase from around 3.30% to about 4.50% (at April’s average rates) pushing their mortgage payments up from $588 to $766 a week. That means buyers with a 10% deposit would have to find an extra $178 a week for mortgage payments compared to buyers with a 20% deposit for the same property.

That would push the proportion of take home pay typical first home buyers in Auckland would have to set aside for their mortgage every week from 34.3% with a 20% deposit, to 44.7% with a 10% deposit.

From a bank’s perspective, the risk profiles of a borrower with 20% equity and mortgage payments equivalent to 34.3% of take home pay, compared to one with 10% equity and mortgage payments of 44.7% of take home pay, are worlds apart, especially when that is set against the uncertainty created by a soft housing market and weak employment prospects.

The difference is probably enough to all but rule out low equity loans to first home buyers on average incomes in Auckland, and they are unlikely to be a major feature of home lending in other areas where house prices are high, such as the Bay of Plenty and Wellington.

Ironically, the areas where the numbers might stack up for low equity loans are regions where house prices are so low that they shouldn’t be necessary, because in those areas typical first home buyers should be able to save a 20% deposit in a reasonable amount of time. So don’t expect to see a significant increase in low LVR lending by banks just because the Reserve Bank has scrapped LVR restrictions.

For hopeful first home buyers on average incomes in highly priced areas such as Auckland, the Bay of Plenty, Wellington and Nelson/Marlborough, the challenges of achieving home ownership are as big now as they were when LVR mortgage lending restrictions were in place.

The full Home Loan Affordability Reports for all New Zealand cities and regions are available here.