Thursday, July 31, 2008

Flight to safety

As consumer sentiment in the UK continues to decline, the mortgage market there is moving towards long-term, fixed-rate deals. Research quoted by Banking and Insurance Business Review indicates the proportion of fixed-rate mortgages on the UK market with terms over 10 years has almost doubled in the last 12 months. And as the current liquidity crisis continues, the number of available mortgages has plummeted by 41% overall, but long-term offerings have seen an increase from 127 available products to 137. According to, the average initial rate payable on 25-year fixed-rate mortgages, at 6.56%, is notably lower than the market average of 6.9%, but still higher than last year's average of 6.38% for a comparable deal. MoneyExpert's director attributed the findings to "a flight to safety" by customers as a result of the credit crunch, and noted that both borrowers and lenders are currently keen on deals that offer certainty.

The Federal Government is conducting a review via a senate committee into the competitiveness of the home lending market here in Australia. One of the proposals put forward by the Melbourne Business School, and supported by the likes of David Liddy from Bank of Queensland and John Symmons from Aussie Mortgage Market, is for the establishment in Australia of an agency similar to Freddy Mac and Fannie Mae in the US, although the model they are proposing is more like that which operates in Canada which continues function normally despite current conditions. If adopted in Australia, one thing a funding model like this might be able to provide is longer term, fixed rate mortgages.

If they became available would you consider using fixed rate mortgages for terms of 20 or 30 years?

(references: Banking and Insurance Business Review, 31 July 2008)

Wednesday, July 30, 2008

Low-Doc Loans

Although some banks offer Lo Doc loans to PAYG earners, they are generally designed for self-employed customers who are not able to produce documents to substantiate their income. If you take out a low documentation loan, you won't need to give your lender as many documents to prove your income. You still have to apply in writing and sign your loan agreement, but you genrally are not be required to produce things like pay slips and tax returns. With most Low- Doc loans you are simply asked to state your income in a declaration know as “self-verification”.

Generally, any bank or other type of lender that offers these products will want to see proof of your assets and liabilities. In most cases they will attempt to make some comparison between the amount of income you are declaring and your asset position. If you are stating a very high income to service an expensive loan, a potential lender will expect to see a reasonably good net-asset position.

It's vital that you understand what you're getting into and not use a Low-Doc product to obtain a loan you simply otherwise couldn’t afford.

While some banks offer lo doc loans at rates equal to the prime lending rate (the rate offered to customers who fully verify their income), others charge a premium of around a half to one per cent higher. We are all familiar with the fact that banks have been increasing interest rates in advance of that levied by the Reserve Bank. Recently however, lenders have been moving the rate charged for Low-Doc products even higher. There are customers of several major banks who took out Low-Doc loans at near prime rates that are now being charged 10.50 per cent.

In wake of the recent wholesale funding difficulties (usually referred to as “the US sub-prime crisis) many lenders have withdrawn from the Low doc market. According to Cannex there were 180 Low-Doc loans being affered by46 lenders in January this year. This has shrunk to 153 loans from 38 lenders. Those that have exited include Bluestone, Virgin Money and big banks like HSBC and Macquarie.

The good news? Low-doc products made up 1 per cent of all loans in Australia last year, well below the 13 per cent that represent US sub-prime loans in that market.

(reference: 30 July 2008;

Monday, July 28, 2008

How much can you borrow?

If you’re like most of us, buying a home is the biggest investment you will ever make. Since very few people are able pay cash, obtaining a loan is the foundation of home ownership. How much you borrow depends on a number of factors:

  • Your income and expenses
  • Estimated repayments
  • Serviceability
  • Assets and liabilities
  • Your lifestyle
  • Your deposit

Before you start looking for a home, think carefully about your spending habits. Compare expenses and income by preparing a budget noting all major upcoming expenses such as replacing your car, holidays, school fees, etc. Knowing exactly how much you spend each week is essential in determining how much you can afford to borrow. Having a realistic picture of your finances will avoid costly knock-backs from a potential lender.

Avoid being rejected for a loan. Lenders frequently trade credit information. A decision to decline a loan appears on you credit report and can harm your chances of obtaining a loan with another lender.

When deciding how much you can borrow, lenders will look at your serviceability - whether you can afford the repayments over the life of the loan, not just while interest rates are low. To do this, they use a benchmark figure that is usually several percentage points higher than the prevailing variable rate. Your repayments will also be assessed against your income. In most cases, the upper limit for minimum repayments is about 35 per cent of pre-tax income (or about 30 per cent of combined income for joint borrowers). Some lenders may use your uncommitted income - what is left over after all household expenses - to determine your repayment capacity.

In most cases, to be eligible for a loan you must own more than you owe. Lenders will look carefully at your existing assets and liabilities. Assets include furniture, jewellery, car, savings and investments that you may have built up over the years. Lenders will assess your credit risk to determine whether you are likely to default on the loan. Factors like your occupation, employment history, where you live and past loans are used to build a credit profile. Your credit risk can influence how much you can borrow.

Friday, July 25, 2008

Planning a budget

We have reached a point where we buy on impulse with no thoughts to the consequences. In order to reverse this trend we need to become more responsible with our spending habits. One of the best tools to help an individual accomplish this is the personal budget. Many people do not see the value in creating a budget as they simply have no desire to restrict their spending habits. However, budgeting is not about “financial dieting” but rather it is a decision-making process. While it is about numbers it is not about accounting. It is about making decisions in your life and choosing specific plans to make your goals a reality.

The object of a good budget is to make your money help you reach your goals, not to force you to conform to rigid rules. Don't be discouraged if your plan doesn't work for you right away. You may have to revise it several times until it fits your wants and needs.

Thursday, July 24, 2008

Wants, needs and likes

Most of us would have heard of wants and needs and their importance in effective goal-setting. So often our financial ambitions are thwarted because we continue to choose to buy what we want and not what we need.

This is an important aspect of money management to be aware of. While our wants are very powerful motivators and can be central to the goals we aspire to, it is important to recognise that what you think you want may only be the things that you would just like.

The fundamental difference between the two is that you put your energy and effort into acquiring the things you want, while you just wish for the things you would like. To help understand the difference, look at your behavior and the energy you put into achieving some things but not others.

Some of the failure you may have experienced in achieving goal outcomes might be because you have set your goals on things you really only would like to have rather than those that you really want.

Wednesday, July 23, 2008

Cut your repayments

ABS statistics show that Australian household debt is at record levels with many people paying high rates of interest, particularly on credit cards.

If you have debts, especially those with very high interest, you might be considering debt consolidation as a way to provide some relief. This strategy can have the benefit of saving you money and making it easier to track and control how much you owe but only if you approach it with the right frame of mind and the correct loan structure.

When it comes to consolidating your debts there are a range of options available. Which one is the most appropriate for you depends on your individual circumstances and factors such as whether you own a home, the nature and number of your debts and your overall financial situation. Working through all your options and taking everything into account can be complex, but very rewarding.

One of the most cost effective ways of consolidating debt is to use the available equity in your home – Rolling your entire consumer debt into a single loan repayment. This can reduce both the repayment amount and the overall interest rate charge. However, in doing this you must be aware that you are probably extending the repayment terms of what was otherwise short-term debt. Any personal loans you had, difficult though they may be to pay now, would have been taken over terms like 3, 5 or 7 years. By putting this debt into a mortgage you will now pay off these amounts over 25 or 30 years. This means that you while you will be paying a lower interest rate, you will pay a lot more interest on the original debt over the term of the loan.

A potential way to avoid this is to structure the loan so that your original property mortgage and the new, consolidated debts are separated through a split loan account. Many banks can offer this facility in one way or another without any increased costs. This will allow you to continue to pay your mortgage at the original amount so it will clear in the least time possible (at least within the original loan term). You can also pay your consolidated debts at the lower mortgage interest rate but with a repayment amount that will allow you to clear this debt at somewhere near an acceptable 5, 6 or 7 year term.

And really, if you are prepared to commit to paying something like the amount you were obligated to before you consolidated the debt, you will pay this new loan off in 1,2 or 3 years.

Tuesday, July 22, 2008

What is negative gearing?

Negative gearing is when you borrow to invest and the income you earn from your investment is less than the interest and other associated costs. This loss is claimable against your other earned income – typically your salary or wages.

How does negative gearing work?

A property is negatively geared when the costs of owning it – interest on the loan, bank charges, maintenance, repairs and capital depreciation exceed the income it produces. In simple terms, your investment must make a loss before you can claim the tax benefit. Negative gearing not works only for property, but also other investments like shares and bonds.

Claimable expenses

Property owners can claim deduction and depreciation against income on the property. There are three main classes of deductions available to investors:

  1. Revenue deductions – These include interest on the loan as well as ongoing maintenance and expenses such as agent’s fees, council fees, advertising charges, bank fees, body corporate fees, cleaning expenses, and insurance.
  2. Claims for capital items – Large capital items such as a hot water service, white goods, etc are subject to depreciation. This means the owner must claim the cost over a number of years rather than all at once.
  3. Claims for building allowances – Owners can also claim depreciation of capital works, specifically for building and landscaping. The current rate is 2.5% over 40 years. Commissioning a depreciation schedule from a qualified quantity surveyor is a good way to maximise your depreciation allowances.

Keeping it at arm’s length

In order to claim deductions your dealings with tenants and lenders must be at arm’s length. If you’re renting your property to a family member or a friend at less than the commercial value then you’re not acting at arm’s length, and you cannot claim deductions as you would in a purely commercial arrangement

Keeping records

It’s easier to get your tax right if you’re keeping good records, and this is very true of rental deductions. If you’re keeping good records, it’s much easier to understand which category your expenses fall into, and makes completing your tax return a much simpler task.

Risks associated with gearing.

There is an inherent risk associated with borrowing to fund any investment. While gearing can help you increase your gain on borrowed funds, the losses can be large in adverse circumstances.

As a general rule, only investors with the financial capacity to absorb the effect of potential falls in investment values, as well as an increased cost in interest payments, should consider negative gearing.

You can minimise the risk of gearing by:

  1. Choosing your investment property carefully. You need to try and select a property that is likely to increase in value throughout the investment period.
  2. Having sufficient income to cover the interest repayments if your tenants are late with their rental payments, or if your property remains vacant for any time. You also need to be able to fund ongoing repairs and maintenance.
  3. Taking out Mortgage Protection Insurance with your investment loan

Friday, July 18, 2008

Banks may be reluctant to pass on cuts

Over the course of the past few years banks have offered discounts of up to 70, 80 and 90 basis points – depending on loan size. For example if the standard variable rate is 9.57 per cent and you have a loan which is around $250,000.00, at most banks you can attract a discounted rate of 8.87 per cent.

Of course we’ve now experienced the US sub prime credit crisis and the colapse of securitisation markets which is where non-bank lenders go to get the money they lend us. But the non-banks aren’t the only ones who raise funds through securitisation, the major banks (NAB, ANZ CBA Westpac, St George) have all used securitisation as a way to meet increased demand for credit.

The cost of funds in these types of markets has become much more expensive as investors seek higher returns because of the risk now associated with mortgage backed securities as a result of the sub prime fall out. This higher cost of funding is not just evident in the increase in our interest rates but also in the exit of lenders like Macquarie Mortages and the demise of RAMS.

Its for this reason that the banks have been saying they have to put their rates up independent of what the RBA is doing. Instead of moving in lock-step with the RBA as they have for years, a 25 basis point increase is passed on to customers as a 30 or 35 point increase and we all know that when the RBA has decided to sit tight, the banks have gone ahead with a 10 of 15 point increase of their own. They have done this for several months now. Overall the banks have rasied their rates by around a full one per cent (100 basis point) more than the RBA since August 2007.

Its been tough for some months and a long time since any of us enjoyed long term stability in interest rates let alone a cut. You may not remember but it was a way back in December 2001 when, as home owners with a mortgage, we were last able to celebrate a fall in interest rates. Back then the RBA cut rates by 25 basis points. This cut was more or less quickly passed on to customers by the banks and other lenders.

But now the mood is different – something has changed. The chief of the Reserve Bank has restated his optimism that Australia is winning the battle against inflation. Mr Stevens confirmed the view in the RBA's board minutes, released on Tuesday, that a slowdown had precluded the need for a further interest rate hike in the near term and, in response to this statement – “you shouldn't be waiting until it's really obvious that inflation has gone all the way back down…before you can conclude you've got to start doing something,'' – some commentators are even saying that rates will soon be falling.
"a slowing global economy will put a brake on inflation and usher in a 12-month period of cash rate reductions from 7.25 per cent to 6 per cent."

ANZ is about to undertake a review of its interest rate forecasts in response to Mr Stevens' comments and the growing signs of an economic slowdown. A spokesman for ANZ admitted there was now only "a slim chance" of its previous forecast of two more interest rate rises this year being proved correct. Of more interest is NAB’s assesment, forecasting an abrupt end to a six-year cycle of official rate increases in the first quarter of next year, when, it says, a slowing global economy will put a brake on inflation and usher in a 12-month period of cash rate reductions from the current 7.25 per cent to 6 per cent.

In this scenario will the banks pass on the lower rates and how quickly?

Speaking in Adelaide, CBA chief executive Ralph Norris has refused to rule out more rate hikes, independent of any Reserve Bank action. "Basically it depends on where pricing goes internationally. If rates continue to remain high, or increase, there is always a risk there will be further out-of-sequence increases."

This was the experience in the UK, where banks failed to ease the burden on borrowers despite official rates falling 75 basis points over six months. However, according to a NAB spokesman, the reason it occurred there was to offset higher credit costs, adding "it could happen here if the market continues to deteriorate". In Australia, though, the starting point is different. The banks have been pricing loans to reflect their higher cost of funds whereas the UK banks had no such opportunity to reprice their loans prior to the UK Central Bank lowering official rates in an attempt to stimulate a stagnant economy.

My view? In the absence of substantial competition, Australian banks will reluctantly pass on future cuts by the RBA as they attempt to re-establish the margins on home loans they enjoyed prior to the competition from non-banks. By this I mean they might pass on a 20 basis point reduction when the RBA cuts official rates by 25 points.

(References: The Australian, 17 July 2008; The Herald-Sun, 17 July 2008; Sydney Morning Herald, 17 July 2008)

Tuesday, July 15, 2008

Get thrifty - save some money

Here are some tips that we've used ourselves or that people have told us about that can help you save some money.

  1. Have a look at your mobile phone bill. Can you cut a better deal. Look at other providers and see what's available. We just moved providers and our mobile bill has come down from $300 per month to $90 pm. Try to text rather than calling mobile phones when its appropriate.
  2. How high is your electricity bill? With privatisation we're not tied to one provider. Call another and see if they can service you. We just moved to Integral Energy and they guaranteed to take 8% off our bill. That represents a saving of about $60 a quarter. Use your clothes dryer only when you desperatley have to. Turn off lights when not in use and turn off appliances at the power point.
  3. What about your insurance? Consider consolidating them with a single insurer for extra savings on premiums.
  4. Do you outsource? If you have a cleaner or gardner come in once a week, consider having them come in once a fortnight. Even better, look at the jobs you can do yourself.
  5. Consider selling unused items around the house. A client had her kids collect all the Playstation games they have in the room that they don't use any more. They traded them in and received $200. Is there money sitting around your home?
  6. Cut down on tuckshop for kids and keep bought lunches for yourself to a minimum. Make it yourself, you will save a fortune. Baking cakes from packet mix is fine for their morning tea and let the kids help with the cooking. I do and my little ones think its great.
  7. Stop the take away! Sure its (somestimes) quick and easy but it really is very expensive for what you get. Haven't you wondered how they can afford all those commercials? Have a no take away rule in your home.
  8. Cut down on your coffee. At $4 a cup just 2 a day adds up to $40 in a week! And I know people who are drinking more than that a day.
  9. If its convenient shop 1 hour before the supermarket closes, they mark down a lot of fresh produce - especially meat, just before they close.
  10. Email, to keep in touch rather than using your mobile phone.
  11. Cut down on your Austar or Foxtel subscription. Hiring the video is cheaper!
  12. Do you have consumer debt? Credit cards, personal loans etc. Consolidate them and pay the one loan at a lower interest rate.
  13. Don't buy bottled water. Get a water bottle and take your own water. Australian tapwater is of the highest quality and you will be helping the evironment by not purchasing more plastic bottles and saving money!
  14. If you really want to save money, take the savings you have made by using these tips and put it on your mortgage. Over time you will save thousands of dollars.

If you can think of other savings tips, or if there is something you have done that was particularly successful, please let us know.

Friday, July 11, 2008

What is investment risk?

All investments have some form of associated risk: they all expose you to the chance you could lose money (either notionally or permanently). Here are seven of the more common types of investment risk.

  1. The risk of permanent loss of capital. Poor quality investments usually experience falls in their value from which they never recover. In extreme cases, their value can fall to zero.
  2. The risk of volatility. Investment volatility is the risk of the value of your investment moving up and down. With high quality investments, their values should move up more than they go down.
    Investments which are expected to produce higher long-term returns (such as shares) tend to
    experience higher levels of short term volatility. On the other hand investments which are expected to generate lower long-term returns (such as bonds) usually experience less volatility in the short term.
  3. Wealth risk. This is where your investments do not generate sufficient returns to help you achieve your wealth or retirement objectives. This is typically the case when a person chooses not to employ an asset that has a higher level of investment volatility (and also a potentially higher return). In that case, the person will need to lower their wealth or retirement expectations.
  4. Credit risk. Credit risk usually applies to fixed term investments and means that the institution you have invested with may not be able to make the required interest payments or repay your money.
  5. Inflation risk. This is where your money loses purchasing power because your investments do not keep pace with inflation. Cash is a good example of an investment that usually falls prey to inflation risk.
  6. Liquidity risk. Investments which are fixed term expose you to liquidity risk. For example, if you need to access your money from fixed term investments before the term expires, you may be prevented from doing so under the contract. Or, if you can access your money, it might take longer than you want, and/or you may be charged significant penalty fees. Poor quality share and property investments also expose you to liquidity risk. The risk is that no one will want to buy them from you or will only buy them at a substantial discount.
  7. Currency risk. When you invest overseas, your money is usually converted to the currency of the country in which you invest. If the Australian dollar subsequently rises in value compared to the other country’s currency, your investment will be worth less to you. On the other hand, if our dollar falls in value, your investment will be worth more.

How can you manage investment risk?

Investment risk can be managed using three prudent principles of investing:

  1. Only invest in high quality investments.
  2. Construct a properly diversified portfolio.
  3. Regularly review your investments to ensure they continue to maintain their quality

Talk to a qualified financial planner about the best way to invest and manage risk associated with your investments

Monday, July 7, 2008

Is it time to refinance?

Increased competition between lenders has given Australians unprecedented choice when it comes to finding the right home loan. Recent figures show that around two thirds of all new loans are in fact refinancing of existing loans. This number is higher than ever, as more and more borrowers are discovering that reassessing their home loan and reconsidering their lender can save them thousands.

What is refinancing?

Refinancing involves taking out a new loan, and using some or all of the funds to pay out your existing loan. This may or may not involve switching lenders. So, what are some of the main reasons for refinancing?

  1. Putting your finances in order – You can take out a new loan as a way of consolidating your debts, by rolling them all into a new home loan. In other words, you take out a larger home loan and use it to pay off various debts. This can result in savings since the interest rate on your mortgage is usually lower than on credit cards or personal loans.
  2. Borrowing more – Borrowers who have built up equity in their home often take advantage of refinancing to access this equity via a larger loan. This can be a way of financing a home renovation, a new car, or investment.
  3. Getting a better deal – High competition in the lending market means that unsatisfied borrowers may get a better deal if they shop around. However it’s not as simple as choosing the loan with the cheapest interest rate and the lowest fees. You may want a mortgage with different features to your current loan. Often the decision to switch is prompted by a change in personal financial circumstances. For example, if your salary has increased you might want a loan that allows you to make higher repayments in order to pay off your mortgage sooner.
  4. Fixing your loan – On occasions when fixed rates are lower than variable rates, many borrowers take advantage of the opportunity to lock in a low rate for a fixed term. If you’re concerned about risk of interest rate rises, switching to a fixed rate loan can give you peace of mind. You might also consider fixing a portion of your loan.

Tip: With enough equity in your home, you might consider borrowing more to take advantage of discounted lending rates. Using a correctly structured loan means you pay less interest

Finding the right fit

There are many factors you need to consider to before you decide which loan out of the hundreds of products available is the best for you and your circumstances, now and in the long term. Consult a good broker that has the knowledge, access and expertise that’s needed to get the loan to best suit your current circumstances.

Friday, July 4, 2008

Women and their super

Women tend to be less concerned about superannuation even though they probably have a greater need for it in retirement. Women have a longer life expectancy, take greater time out of the workforce for parenting and, on average; working women earn less than men.

In general, women will have a need for more super to support a longer life but their circumstances mean they will generally have less in their accounts.

There are simple things women can do to boost their superannuation, including:
  1. Keep as few accounts as your employment circumstances will permit. Multiple super accounts mean more fees than necessary. Also, keep your address up to date with your providers to prevent accounts from going astray.
  2. Find lost super, especially if you've done a lot of casual or part-time work. You could easily have little pots of money in accounts you've forgotten about.
  3. Top up your super when you can afford it. Tax concessions make super an excellent way to save for retirement. Outside of your home equity, most people will save more through super than through any other way.
  4. Get interested in your super – read your 6 monthly or annual statements and keep track of how your super is growing. Balances may vary from year to year but over time, with steady and appropriate contributions, your super will grow into a tidy nest egg on which to enjoy a comfortable retirement.

Wednesday, July 2, 2008

5 Tips to get kids saving

As parents, we want to do everything we can to help our kids get the best possible start in life. One of the most important things you can do to help them get off on the right foot is to teach them to respect and value money.

  1. Talk about money with your children as they often see you spending money and getting money from an ATM, but they don’t see the monthly bills and other expenses. As a result, children develop a perception that money is easy to come by and don’t understand how it needs managed. When appropriate, sit your children down when you are balancing your chequebook or paying the monthly bills. This will give them a broader view of how money is earned and managed.
  2. Pocket money will allow children to practice saving and spending money, and is a great way to teach them how to be responsible with their money. Spending money all at once and losing money is part of the lesson most children will go through in order to develop financial care in the future.
  3. Provide the opportunity for your kids to earn money – Children should be accountable for the regular daily chores around the house – making the bed, watering the plants, washing the dishes etc. However, for those tasks outside of the day-to-day running of the household, you should create opportunities for your child to earn a little extra pocket money.
  4. Take your children grocery shopping – Get your children involved in identifying grocery items and how much they cost. This will teach them how smaller priced items can quickly add up to a much larger total.
  5. Set up a savings account for your child – Maintain controls, which you govern (like when they can make withdrawals), but let them see their deposit book or statement regularly, particularly when interest is credited. This will teach your children about rewards and saving.

Tuesday, July 1, 2008

No rate rise required

It’s the first day of the new Financial Year – a good day for the Reserve Bank of Australia (RBA) to meet and decide whether home owners with a mortgage will be spared more financial pain by keeping interest rates on hold.

Yesterday, the last day of the fiscal 2008, the RBA released figures that show the property market cooling and momentum in business credit is starting to weaken. Quoted in the Sydney Morning Herald, the figures indicate the property market is experiencing the slowest growth in 17 years, and business investment, while rising in the month by 0.6%, has hit the lowest level in a year on an annualised basis.

In December last year, business investment was powering ahead at 23.8%. It was, essentially, a major propellant for the economy. The list of major investment projects underway at the moment is impressive, but experts believe the number of new developments will start to slow.
The combination of higher interest rates, the blowout in funding costs and weaker business and consumer sentiment will hold back the commissioning of new projects. Business investment in new capacity, particularly last year, was the new driver of the Australian economy. Now, perhaps, that won't be the case going forward.It is a similar story with the housing market. The rate of borrowing to buy property has slipped to the lowest level since September 1991, spelling gloom for the market.

The Reserve Bank does not need to move interest rates today or indeed, for the rest of the year
Add to this the increasing price of oil is likely to feed into the cost of other goods, pushing up prices and therefore inflation. However, it will also have a dampening effect on discretionary spending as consumers adjust their budgets to find the extra dollars required to fund their largely inelastic demand for fuel - meaning interest rates wont necessarily be the only thing constraining demand.

The potential for inflation in the current circumstances will not be due to excesses in demand. The RBA has the time to examine how the current slowdown in construction and business investment will play out does not need to move interest rates today or indeed, for the rest of the year.