When the Reserve Bank announces its ninth consecutive increase in interest rates, homeowners anticipate future increases in mortgage payments, and financial advisors advise them to prepare for mortgage stress.
What is mortgage stress?
If a homeowner devotes more than 30 percent of their pretax income to mortgage payments, they are said to be under mortgage stress. Kevin Orchard, owner of Orchard Lending, explains, "It signifies that a substantial portion of one's total income goes into covering one's head."This forces homeowners to make "several really painful choices," and costs formerly thought essential, such as insurance, might be eliminated first.
Recent mortgage affordability projections, according to Kevin, were predicated on record-low interest rates during the Covid epidemic.They purchased homes because they were promised that interest rates will remain low for years.What experts think of the RBA's rate hikes and what they predict will happen next.
Since May 2022, however, the RBA has started hiking interest rates in response to surging inflation. The current official cash rate is 3.35 percent, the highest level since 2012. The RBA has also signalling additional rate rises would be required in future months to decrease inflation, which stands at 7.8% and is far clear of the bank’s 2% to 3% objective.
Tim Lawless, research director at CoreLogic, believes this to be the largest unknown variable. It is the reality that interest rates have climbed far more, much more quickly, and much sooner than anybody anticipated.
Orchard lending’s mortgage broker Kevin said, "It's likely that they borrowed more than they could afford now." Although borrowing limits have decreased by roughly 35 percent in the last year, "these individuals would not be accepted today."
Who is in danger?
As of December of last year, over one-fourth of mortgage holders were at danger of mortgage stress, and this percentage is only anticipated to increase.
According to Rate City, the typical borrower with a $500,000 loan is likely paying an additional $908 per month since rates began to climb in May of last year. Since May, the latest rate rise on a $750,000 loan adds $1,362 per month.
"We anticipate [the rate of mortgage stress] to increase until 2023," Kevin adds. In addition to increasing interest rates, the cost of living has increased.He anticipates that monthly mortgage payments will be especially difficult for new borrowers.
Kevin states that the likelihood of mortgage stress is "primarily restricted to families who have experienced a change in circumstances," such as a decrease in income or loss of work.This is often the point that mortgage difficulty becomes more obvious."The expense of food, gasoline, and other necessities like energy," Kevin explains. Many are finding it more difficult to not just pay their mortgages, but also their rent.
The RBA anticipates that more than 800,000 households will switch from fixed to variable rates this year."This represents a change from an approximate 2% mortgage rate to something closer to the mid-fifties," Kevin explains. “We should expect that mortgage distress is going to become more pronounced through the year.”
However, tight labour markets and high employment rates are a safety nett keeping a lid on mortgage defaults, he adds.“Even though we could see mortgage trouble increasing up, I don’t believe we are going to see a big explosion in mortgage defaults.”
What can borrowers do?
Cut expenditure, Kevin argues. “That is the purpose of the RBA seeking to lower inflation” after two years of strong cash flow during the Covid epidemic.
Kevin thinks that a significant reduction in retail expenditure will be necessary. "Expenses you can genuinely manage, such as vacations and eating out."In actuality, though, families "have likely already done so and are currently feeling the pinch"
“So for anyone in that type of circumstance, the best thing to do is proactively get in contact with your home loan broker and negotiate some forbearance,” for example temporarily extending the loan term, or going interest-only. “Tell them that you are worried about prices going up, and see if they are able to help find a solution for you.”
Analysts forecast higher interest rates and lower real wages in 2023, but no recession, leaving mortgage borrowers to best plan for further plans, adjust budgets, and create plans before issues spiral out of control.