The looming risk that could leave first-home buyers $20,000 out of pocket

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The looming risk that could leave first-home buyers $20,000 out of pocket

By Elizabeth Redman

First-home buyers who purchase with a small deposit risk owing thousands of dollars more on their home loan than their house is worth if property prices fall, new modelling shows.

First-time buyers can consider a bigger budget after the federal government lifted its price caps for the Home Guarantee Scheme this week, allowing a purchase with a 5 per cent deposit without paying lenders’ mortgage insurance.

First-home buyers with small deposits could be in negative equity if property prices fall.

First-home buyers with small deposits could be in negative equity if property prices fall.Credit:Janie Barrett

Sydney buyers can now spend up to $900,000 in the program, Melbourne is up to $800,000, Canberra to $750,000 and Brisbane to $700,000. For Perth, Adelaide and Hobart the price cap is $600,000.

But the cap increase comes as price growth begins to flatten out after a pandemic-driven property boom. Economists expect prices to fall as official interest rates rise and reduce the amount that buyers can borrow, alongside stricter rules on bank lending and stretched affordability.

Consider, for example, a Sydney buyer who has a $45,000 deposit for a $900,000 home in the scheme.

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If prices fall in line with NAB forecasts, down about 10 per cent by the end of 2023, their home would be worth $808,740.

But after taking out an $855,000 loan and making regular repayments, the owner owes $830,534, Canstar modelling shows. This means they owe $21,794 more than the value of their house, known as negative equity.

An equivalent Melbourne buyer with a $40,000 deposit on an $800,000 property could find their home worth $715,200 by the end of next year.

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Their loan balance would be $738,252, or $23,052 more than the value of their home.

In smaller capital cities, property price falls are forecast to be shallower, leaving new homeowners in positive equity.

Hobart homeowners could be ahead by $41,000, Brisbane by almost $30,000, Adelaide by more than $26,000 and Perth owners could be marginally ahead, under the modelling.

Experts say a negative equity position only becomes an issue for an owner who needs to sell suddenly due to changing life circumstances, or wants to refinance, or falls on hard times and cannot make their mortgage payments.

For long-term owners, Australian property prices have historically recovered from their corrections and reached new heights.

Canstar’s group executive financial services Steve Mickenbecker said highly indebted borrowers in Sydney and Melbourne in particular are at risk of negative equity if property prices fall.

Homeowners with small or negative equity face no issues as long as they can keep paying the mortgage.

Homeowners with small or negative equity face no issues as long as they can keep paying the mortgage.Credit:Flavio Brancaleone

He emphasised that there is no problem for someone who can make the repayments and intends to keep living in their home and noted that the federal government acts as guarantor for the 15 per cent difference between this buyer and a standard 20 per cent deposit.

The issue is for someone who needs to sell quickly.

“Not only have they lost the money they put in but when they sell they’ll have to find extra cash to repay the loan,” he said.

“But in the longer scheme of things, property keeps going up in Australia, with these slight corrections, or sometimes big corrections.”

RateCity research director Sally Tindall said homeowners with low or negative equity might find it difficult to refinance their loan and get a better deal until they build up 20 per cent equity, as not all banks would be willing to take the risk.

Previous first-home buyers would have achieved this threshold fast as property prices rose, she said, allowing them to remove the guarantee.

“For first-home buyers that managed to take it out up to this point, in some cases they’d probably be laughing all the way to the bank,” she said.

“The downside of this type of scheme is you’re taking out a larger loan. Your monthly repayments will be higher.

House prices are expected to fall as interest rates rise, bank lending rules get stricter, and affordability looks stretched.

House prices are expected to fall as interest rates rise, bank lending rules get stricter, and affordability looks stretched.Credit:iStock

“When interest rate rises hit, the pain of those interest rate rises will be magnified with a larger loan.”

Mortgage broker Chris Foster-Ramsay has not seen buyers with this refinancing challenge for a decade, as property prices have been rising for much of that time.

He said the best way to avoid capped equity and achieve capital growth is to choose a home in a sought-after location with plenty of infrastructure such as roads, train lines, schools and shops.

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“We don’t see a lot of issues if you stick to those rules,” he said. “Where we do see issues is large, new apartment builds off the plan, and brand new areas, so greenfield paddocks turned into new estates.”

Price falls are often uneven and some experts have warned government support for first-home buyers could even put upward pressure on prices for entry-level properties for a time.

“It’s a gift to anyone who’s selling a house at the moment and may have been watching prices start to moderate or even fall,” University of Sydney professor of urban and regional planning Nicole Gurran said.

“The extension of this guarantee to allow first-home buyers to borrow even more really is just fanning the dying flames of the property boom, unfortunately.

“This type of approach makes the barriers to first-home ownership steeper than ever and it puts first-home buyers who do manage to get into the market with very high mortgages at an ever riskier situation given the prospects of interest rates rising.”

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