With the announcement of Scott Morrison as our Prime Minister and backed by the Australian Labor Party, the First-home buyer’s government deposit scheme will be introduced.
So what’s this new scheme all about? Will it work? How will it impact our economy?
Today most major banks will not provide a home loan to anyone unless that person (or couple) can contribute a deposit equal to 20% of the value of the home they wish to purchase. Now, given the national median house price in 2018 was $538,688, the average first home buyer needs to have saved $107,737 before they can even get a look in to the housing market. And if a bank is willing to accept a deposit less than 20%, they will ask you to pay Lender’s Mortgage Insurance (LMI) in addition to your loan repayments which can be considerable.
Alas, Mr Scott Morrison has announced that the government will help first home buyers reach the 20% deposit required by most lending institutions by chipping in up to 15% of the house value towards a deposit.
The obvious benefit with this new scheme is that first home buyers don’t need to save as much to enter the property market and as such can enter the property market a lot sooner than they otherwise would be able to. Furthermore, the dreaded LMI mentioned earlier will not have to be paid because users of the scheme technically will be meeting the minimum 20% deposit threshold needed to avoid LMI.
However, there’s a few things worth considering. Firstly, the scheme is limited to 10,000 first homebuyer per year, which is about 10% of Australians who bought their first home in 2018. Secondly, the loan is only available to single people earning up to $125,000 per year or couples earning up to $200,000 per year. The guarantee will last until such time as the homeowner refinances.
But there are some more macroeconomic issues with this scheme. One of the main reasons the big banks ask for a 20% deposit before providing a home loan is to reduce risk of default. Being able to save up to 20% of your home loan is a fantastic way for banks to test your financial discipline. It also means you have a sizeable equity in your house, which in turns means you have less money to repay the bank and smaller repayments overall.
By essentially allowing first home buyers into the market with a 5% deposit, these buyers are suddenly faced with a 95% mortgage repayment (and associated interest) instead of 80%.
The Sydney Morning Herald has done a very useful demonstration of what this means:
“On a $500,000 property, a first-time buyer now has to stump up $100,000 deposit, leaving them with a $400,000 mortgage. Over the life of a 30 year loan, the buyer would pay $304,000 in interest with monthly repayments of $1956.
But a 5 per cent deposit on the same property would be $25,000, forcing the buyer to borrow $475,000. Over the life of that loan, they would pay $57,000 more in interest than someone with a 20 per cent deposit.
Of more immediate concern would be the monthly repayment of $2327, or $371 more than the person who had a larger deposit.
Someone taking out a mortgage on a $400,000 property would face $289,000 in interest under the Coalition’s proposal compared to $247,000 if they had a 20 per cent deposit.
A person with 20 per cent down payment would make a $1565 monthly repayment compared to $1858 for someone with the bare minimum deposit.”
Theoretically, so long as the value of the home purchased continues to rise, these larger monthly repayments might not be such a big deal. However, it is highly anticipated that Aussie house prices will fall in the coming years. This is a huge concern because if you are repaying significant loans on a depreciating asset you can seriously risk default.
As with every political decision, this is a double-edged sword. It really depends on what the housing market does in the future and also what the strategy is of the first home buyer. If prices continue to rise, it is possible that every time a first home buyer manages to save enough money to put a deposit down on their desired home, the value of the home increases to a point where this is no longer enough. This can be a very harsh cycle. In this case, this scheme allows first home buyers to get a foot in the door early and hopefully benefit from their investment value increasing as they repay their loan.
On the flip side, if house prices fall – or do not rise as much as anticipated – this scheme could be a real risk and put first home buyers in a difficult financial position.
All in all, the limited availability of the guarantee means this scheme probably won’t have too much of an impact on the Australian economy anyway. It is likely to be most useful for those who are on the cusp of saving a deposit (15-19%) and need a helping hand to expedite their purchase.