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Home Loans: Can We Balance Between Financing & Speculation?

Home financing has always been a sticky situation – only in a perfect world could we balance regulations which assist genuine home buyers while keeping speculation at bay. With home affordability firmly in the spotlight, REENA KAUR BHATT explores the feasibility of ‘cheaper’ home loans.

By Reena Kaur on Mar 06, 2017

Just up to a decade ago, a Malaysian adult could easily save up for the down payment on a home in Klang Valley within the first year of their working life. I had the pleasure of speaking to a banking analyst, BA (who wishes to remain anonymous) who did just that – coupled with his life savings, he managed to dish up the 10% deposit for a RM300,000, 3-bedroom apartment in Wangsa Maju in 2008 on a RM2,800 salary, within 12 months.

The purchasing power gap has since grown by leaps and bounds – securing a loan for an affordable property today is a perennial challenge not just for the average Joe but for those earning 5 figure salaries as well. Those bringing home up to RM15,000 each month are lining up to purchase PR1MA homes costing not more than RM400,000. Sadly, as reported by Prima Corp -  in 2016, 60% of those who had been offered PR1MA homes had to give up their homeownership dream as they failed to secure bank loans.

Assisting Home Buyers…..and Speculators?

To assist the rakyat who are struggling to gain a foothold up the property ladder, the government recently announced a step-up financing (SUF) option for PR1MA homebuyers, with EPF Account 2 withdrawal options. Applicants only need to pay the interest portion in the first five years, as the interest charged on the principal amount would only kick in from the sixth year onwards until the loan is settled. Also, the moratorium period for PR1MA homes was reduced from 10 to 5 years and applicants’ monthly income eligibility was raised from RM10,000 to RM15,000.

Adrian Un,CEO of Skybridge International Sdn Bhd cautions that SUF, also known as Interest Payment Option (IPO) among bankers, should be studied and implemented accordingly, as its trickle-down effects could be detrimental; especially as the relaxed guidelines (on moratorium and income) could create loopholes which support speculation.

Quite a few fear that we might relive the DIBS (Developers Interest Bearing Scheme) era which saw the rise of home flippers – people who buy a property, wait a few years, then sell it again for considerable profit.

Adrian says that the moratorium condition is especially worrying, as it does not commence upon the Certificate of Completion (CCC) but upon the signing of the SPA. The construction period for most properties takes roughly 3-4 years. Given so, PR1MA buyers will only have to wait a year or 2 before they can sell off their unit for a profit.

Should this happen, sub-sale properties might flood the market in 5/6 years’ time and cause an even bigger negative chain reaction. This happened in Singapore a few years back – IPO offered by banks got scrapped by the government 2 years into its introduction as most borrowers were investors and not genuine owner-occupiers, thus causing a spike in unnatural demand and resulting in a glut in the secondary property market down the road.

Adrian believes that SUF should be offered for the purchase of existing homes within the affordable range, i.e: those costing RM300,000-600,000. With the increased appeal of PR1MA homes, the unsold unit situation, especially in Klang Valley and Penang, might worsen. Private developers will lose their market share as aspiring homeowners will scramble to get PR1MA homes instead.

Cheaper Loans - Adding Fuel To The Fire?

There is the other elephant in the room – will the ‘cheapness’ of the SFU loans come back to haunt borrowers in the sixth year? This financing option can be risky as income might not catch up as quickly as expected – hence, many could default on their instalments after the interest-free period is over in 5 years time.

In its latest report on banks in Malaysia, Moody’s highlighted data released by Bank Negara Malaysia, which revealed that total outstanding household loans had grown 5% at end-2016. The further increase in the number of loans turning sour is very much possible - Household budgets are increasingly coming under pressure, with price rises in many categories especially food, petrol and utilities. Comparatively, the average starting pay for most professional jobs is still RM2,500 – as it has been for the past 5-7 years.

This optimistic outlook for the ‘extrapolated’ financial health of SFU borrowers is not wholly accurate and can lull applicants into a false sense of safety -  many might put too much faith that their pay in 5-6 years’ time would be sufficient to pay off housing debt which they cannot afford to take today.

Adrian agrees that it is wholly possible for panel banks for the PR1MA SUF scheme  to inherit an increasing number of Non-Performing Loans (NPLs) in the future – not only is it imprudent in nature, but participating banks might be pressured to grant financing for buyers who do not have the financial capability to take up debt under any other circumstance.

What Are The More Feasible Options?

How then can we assist genuine home-buyers? BA opines that affordable properties AND loans need to go hand in hand and made available for various household levels and not just for the lower income group.

Housing loans in Malaysia are based on compounded interest – Let’s say a buyer takes up a 90% loan at 4.65% interest over 30 years for a home worth RM500,000. His monthly instalment comes up to RM2,320 – at the end of his tenure, the buyer would have paid a total of RM835,332.

Being an analyst, BA has proposed the revamping of the home loan structure to financial regulators, for genuine home buyers only of course. The proposal, sees a fixed interest rate being charged on the WHOLE loan amount at the point of borrowing. Using the prior example:

This will mean give the buyer a total savings of RM272,832 in the long run – that is 5,684 5kg-packets of Basmathi Rice for you. Also, the loan will not be subjected to fluctuating interest rates.

This proposal seems like a win-win – It is true that the amount of profit earned by banks will be lower, but will not more affordable loans result in more borrowers, hence tipping back up the profitability scales?

Why aren’t banks receptive to this proposal then, I ask BA – Can they not balance their bottom lines with social obligations?

BA explained  - even if a bank is willing to forgo maximising returns, reducing interest rates to make loans more affordable is not viable as it will affect the bank’s Return on Equity (ROE), which is a measure of the bank’s profitability or financial position.  If a bank is perceived to be financially weak, depositors will withdraw their funds and other banks will not lend to it – deposits and borrowing are necessary assets to generate the bank’s income and to maintain its liquidity.  This begs the question - How can the bank lend money if it does not have the funds to do so?

Current Banking System Does Not Support Lower-Income Earners

Nevertheless, there are gaps in the local banking industry - The current pricing structure for housing loans is based on the base rate (based on bank’s cost of fund) + loading (interest spread/profit set by respective banks). The only portion that a borrower can negotiate over is the "loading" portion. However, banks already have certain policies in place; for example, properties priced below RM200,000, the loading portion is fixed and there is no room for negotiation for the total interest rate charged.

In fact, BA revealed that the higher the loan amount (the pricier the property), the bigger the bargaining power– a cruel twist of fate which works in favour of investors and well-to-do citizens but represses aspiring homebuyers/middle-income earners.

Even worse, the risk assessment of borrowers is biased towards high-income earners – most banks will close an eye on the Total Debt to Service ratio (DSR), which measures creditworthiness if the applicant’s salary exceeds a certain amount; even if the ratio tops 150%! Whereas, low and middle-income earners are subjected to stringent DSR requirements of usually not more than 70%.

What Can Be Done Instead

The fixed-interest loan proposal, however, could be a government initiative - BA recommends that this loan scheme should be made available for genuine homebuyers through a separate government fund house. Interest rates should be set accordingly for different levels of affordable homes in different localities - After all, income levels vary considerably between states.

This concept is not new – in Canada, a lending organisation is assisting genuine home buyers through a rent-to-own scheme, where the lender goes into a joint-venture of sorts with buyers. Upon down-payment, buyers will have a 10% ownership over the home and the remaining 90% (loan portion) is owned by the lender. The buyer then will pay a monthly rent over an agreed-upon tenure until the ‘loan’ is cleared to claim total ownership.

What could make or break the success of this financing scheme is the level of responsibility invested by this special body. Ideally, it must play a more invested role as compared to other conventional lenders – stringent checks and balances in place to weed out speculators. There should also be additional controls to circumvent sub-letting – for instance, wrong-doers will be charged an additional 20% penalty on the remaining monthly instalments should they be found guilty.

Conversely, ‘good’ borrowers could be rewarded -  those with a reliable history of rent payments should be awarded a lower interest rate amount because they have already shown they are able to meet their mortgage repayments.

Can Everyone Win?

In the case of the Canadian example, as 90% of the asset is owned by the lender itself, it calls for a higher due diligence and a sense of responsibility from financial institutions. Lenders will not have the option of passing off defaulters to a debt collecting agency as under a conventional loan (where foreclosed homes will not be reflected in their balance sheets). Hence, there will be concerted effort to mitigate the risk of applicants defaulting.

BA believes that the special financing organisation is a great way to focus and streamline the efforts undertaken to boost home ownership among the rakyat – instead of having less impactful rules in place, such as the Bumiputera quota which applies across all income levels.

It is high time that we look at innovative financing methods which are sustainable and benefits the mass population as a whole – after all isn’t that what 1Malaysia is all about?