Pregnant pauses on principal repayments
Worrying numbers of borrowers are on interest-only arrangements, writes Rob Stock.
‘‘In the months after baby arrives, it might be worth considering switching to interest-only home loan repayments, if you need to tighten your purse strings.’’ Kidspot.co.nz
Heavily indebted young families struggling to cope when baby comes are helping cement the popularity of interest-only home loans. Interest-only mortgages were once considered the territory of property investors banking on capital gains, and an eventual sale, to repay their loans.
But Reserve Bank figures show 16 per cent of owner-occupier home loans, or $26.5 billion worth of loans, were on interest-only terms at the end of February with the borrowers making no progress in paying off the money owed to the bank.
The rise of interest-only home loans has authorities around the world worried, with the Australian Securities and Investments Commission concerned that about 40 per cent of total home loan lending is in interest-only loans.
There are many reasons why owner-occupiers opt for an interest-only home loan for a period of time, instead of traditional ‘‘principal and interest’’ loans, where they gradually chip away at the amount they owe.
Banks say one of the most common is when couples struggle to cope with going down to one income when a child is born.
When a couple apply for a mortgage, their bank will ask how many children they have as well as their income in calculating what it is willing to lend them.
ANZ’S mortgage calculator indicates a childless couple earning $120,000 combined before tax, and running two vehicles, could borrow up to $772,000, with repayments of around $4500 a month.
But fast-forward two years to the birth of a first child, and the temporary loss of one income, and the couple would no longer qualify for the same-size home loan, and coping with repayments on their existing borrowing becomes much harder.
ANZ’S calculator suggests it would lend up to $461,000 to a couple with a combined income of $80,000, one vehicle, and one child with repayments of about $2700 a month.
It’s at this stage in a life that mortgage brokers and mothering websites suggest families go interest-only until the child is old enough to be popped into daycare, and the mother can return to work.
Squirrel Mortgages says: ‘‘Provided you own more than 20 per cent of your home, you can . . . put your mortgage on to interest-only for a while. This will reduce repayments to cover any shortfall.’’
And Kidspot.co.nz says: ‘‘In the months after baby arrives, it might be worth considering switching to interest-only home loan repayments, if you need to tighten your purse strings.’’
Both advise people planning to start a family to learn to economise as soon as possible, and to repay as much debt as they can, before their first baby arrives.
The government-funded financial advice website Sorted.org.nz warns that going interest-only can end up costing homeowners more in the long run, and the interest-only period should be kept as brief as possible.
It’s not only cash-strapped young families who banks allow to go interest-only.
People struggling to make repayments sometimes do so as a means of coping with financial hardship, perhaps after a job loss, until they get back on a solid footing, or sell their home at the urging of the bank.
‘‘Generally interest-only table loans are appropriate when providing financial solutions to customers with temporary or longer-term debt servicing difficulties,’’ says Kiwibank spokesman Bruce Thompson.
‘‘This may be a change of circumstances such as having a baby or starting a business, it’s generally when a borrower’s income decreases rather than their debt increasing.’’
Sometimes borrowers have better, higher-return uses for their money than repaying the mortgage, such as starting a business.
Another situation where interest-only periods are used is when a homeowner is borrowing to renovate their home, and plans to switch back to principal and interest payments afterwards, says mortgage broker Cambell Hastie.
Bank of New Zealand spokeswoman Janine Ogier says: ‘‘The most common reasons tend to relate to bridging finance, or through the building stage of a new house.’’
Some people, like salesmen on lumpy commission income, use interest-only loans to help with cashflow management, says Westpac spokeswoman Hilary Marett, but they rarely put the entire loan on interest-only.
A borrower might use an interest-only loan alongside a revolving credit loan allowing them to make principal repayments when they have the money, while not doing so in leaner months.
‘‘For people with lumpy or inconsistent levels of income such as contractors or the selfemployed, smaller regular interest-only payments are often preferred,’’ ANZ spokeswoman Emma Mellow says.
‘‘They still have the ability to make lump-sum principal repayments from time to time.’’
Some owner-occupiers may also be among the 130,000 or so property investors, Hastie says, and are intending to pay off their home loans using capital gains on the sale of a rental property.
Ogier says: ‘‘Use of interest-only periods is more common amongst property investors.’’
Banks deny first-home buyers can use interest-only loans to keep repayments down so they can buy a home they couldn’t afford on a principal and interest loan.
‘‘We provide interest-only periods of up to five years provided we establish capacity to service the loan within the maximum original loan term,’’ says Thompson.
And banks generally have a ‘‘rule of thumb’’ on how many years owner-occupiers can stay interest-only. At Kiwibank, BNZ and Westpac it’s five years, and at ANZ just two.
Provided borrowers meet longterm repayment criteria, going interest-only is a ‘‘choice’’ banks say they leave to customers.
‘‘The main thing to bear in mind is that it is a customer choice, rather than being bankdriven,’’ says Marett.
Mellow says: ‘‘As a responsible lender, ANZ wants customers to be paying down their debt.’’