Could lending get harder?

In late January, the Reserve Bank proposed DTI restrictions for loan affordability and easing LVR limits on property equity for residential lending.

There is some merit to what is being proposed. Borrowers are more likely to not pay their mortgages because of cashflow stress than equity being reduced; however, I also believe there is a serious overstep in applying it to investment lending as well as lending for borrowers' own personal residences as in most cases overseas; they exempt lending for residential investment lending.

The initial DTI restrictions have been proposed as follows:

• 20% of their residential loans to owner-occupiers with a DTI greater than 6; and 
• 20% of their residential loans to investors with a DTI greater than 7

The proposed LVR changes are:

• 20% of owner-occupier lending to borrowers with an LVR greater than 80%; and
• 5% of investor lending to borrowers with an LVR greater than 70%.

So what does this all mean?

I'll get onto what effect the multipliers of 6 for owner-occupied lending or 7 for investors may have shortly. Still, it is worth noting the 20% each that the banks will be allowed to do outside these categories at higher settings.

I initially thought this was very promising as it allows quite a bit of leeway. Now that I have had more time to think about this, I believe that this is likely to be the Reserve Bank playing politics as they will want to be quite gentle about bringing new regulation in where the new coalition Government and particularly David Seymour has already shown that they want to reduce red tape.

I think what is likely to happen over time is that they will tighten these percentages as and when they see fit.

We have already seen this with how they have handled the LVR restrictions over the now almost 11 years they have been in place with moving the investment LVRs to reduce demand and also the percentage of lending banks can do above an LVR of 80% (note that above they mention increasing this to 20%, it is currently 15% and had been reduced to 10% towards the back end of the COVID property boom and only relaxed June last year and which resulted in first home buyers to a large extent being locked out of the market because of this.

I think the Reserve Bank is looking to softly implement these now, as initially, they will have little impact as interest rates are high, and the test rates banks already use mean that many borrowers will struggle to qualify. Over time, as interest rates drop, the test rates will also track down, and there becomes a point where DTIs will become the handbrake. At KPM, we have already seen how they can impact borrowers as both ASB and BNZ temporarily introduced them across 2020 and 2021.

The basic formula is:

• Household gross earned income + scaled rental income = income which can be used for DTI's (DTI Income) 
• DTI Income x 6 will be the maximum you can borrow for a personal home if you can't access some of the amount the banks are allowed to do outside this. 
• DTI Income x 7 will be the maximum you can borrow for an investment property if you can't access some of the amount the banks are allowed to do outside this.

A few comments on the above which are worth noting:

1. At present, there can be quite large variances between the banks as to what percentage of rent they take. I wouldn't be surprised to see this figure become standardised across all banks.

2. Note that all existing debt is taken into account, and the maximum figures mentioned above will be after this debt is taken into consideration. This means, for example, that if a couple had $120k as overall gross household income and $20k of credit card limits, then their borrowing capacity based on a DTI of 6 would be as follows:

i. $120k x 6 = $720k

ii. $720k - $20k credit card limits

iii. $700k potential borrowing capacity

3. Note that gross household income (the income connected to the applicant's earned income) is used, not net income. This makes no sense, as if there are changes to personal tax rates. It is not reflected in how this flows through to borrowing.

4. We see many clients who purchase investment properties initially to get onto the property ladder and then later look to purchase their family home. As interest rates drop and the DTI rule becomes a larger hurdle than banks' standard loan affordability process that they use currently, I expect to see more people in this position where they can potentially buy another investment property because of the higher multiplier used but who may need to see investment property to the lower required multiplier for a personal residence.

There are exemptions

Besides the amounts allowed outside the standard multipliers, there are other exemptions as well, which are:

• Existing lending – people will be able to refinance existing loans and not have DTIs apply to this lending. 
• Construction lending – just as they did with the LVR rules, the Reserve Bank was always going to exclude this to encourage the supply of new property. 
• Bridging finance – this again is excluded with LVR's so a continuation of this policy to enable liquidity in the market. 
• Kainga Ora First Home Loan scheme 
• Business loans – this is likely to be messy as many SME businesses in New Zealand leverage off residential property, and the loan-to-value restrictions hindered these businesses' ability to borrow, although they were exempt. 
• Commercial property.

What should you do?

• Get an understanding of how these changes may affect you. If you have existing mortgages or are looking to purchase over the next 12-24 months, it is worth having an understanding so you can be in the best position possible. While these proposals have not been confirmed yet, they are very likely to be what proceeds. If you would like us to do this for you, Kris Pedersen Mortgages can assist with a no-cost, no-obligation review for any Property Brokers client. Just email me at kris@krispedersen.co.nz, and either one of my team members or I will assist. 
• If you happen to be in Masterton or nearby on the 28th of February, I'll be talking over these changes and other key points to be aware of as property investors alongside Property Brokers Property Management General Manager David Faulkner. It would be great to see you there! Visit: https://www.propertybrokers.co.nz/investorevening for more info and to register.

Final point

I personally don't think DTIs are required as banks in New Zealand are known as some of the safest in the world, and even through a pretty severe downturn in property prices, they remain with very low arrears and in very good health. Further restrictions on credit will just mean more people find it harder to get into a home, and that's surely something we need to find a way to make easier at present.

My personal opinion is that the Reserve Bank should have just regulated that they could control the test rates that banks use so that if mortgage interest rates get too low, then they can ensure that these are set at a reasonable level to ensure that borrowers can handle mortgage stress in the event of rapidly increasing rates as we have seen over the last few years.

However, I expect to see them later this year, so make sure you are ready for them!

About the author: Kris Pedersen is a leading figure in mortgage advising and property investment, consistently ranked among the country's top six mortgage advisers for the past four years. With over a decade of experience, Kris is the preferred choice for investors seeking expert guidance to expand their portfolios. He shares his insights as a respected speaker at Property Investor Association groups, and his expertise extends to New Zealand and overseas property and finance markets, with regular features in NZ Property Investor Magazine. Kris Pedersen and Kris Pedersen Mortgages Limited are registered financial service providers, ensuring transparency and reliability in all financial dealings. Their credentials on the Financial Service Providers Register can be viewed here: https://fsp-register.companiesoffice.govt.nz/