As expected, APRA has released a consultation to change the minimum floor rate of 7% for mortgage serviceability assessment (despite recently having said it would stay). It is subject to a 4-week consultation.
More “unnatural acts” as we predicted to try and sustain the debt and property bubble. More such acts will follow.
In APRA’s view, the expectations introduced in 2014 have served an important purpose by limiting excessive borrowing in an environment of low interest rates and high household debt.
However, changes in the market and economic environment since that time have caused APRA to review the appropriateness of the current guidance. Two factors, in particular, suggest a reconsideration of the current approach may be warranted:
– the low interest rate environment is now expected to persist for longer than originally envisaged. This may mean that the gap between actual rates paid and the floor rate may become unnecessarily wide; and
– compared to 2014, when a single standard variable rate was used as the basis to price all mortgage loans, ADIs have introduced differential pricing for mortgage products. The merits of a single floor rate are therefore less obvious, particularly as it will be most binding on owner-occupiers with principal and interest loans, and least binding on investors with interest-only loans.
Given these changes, APRA is seeking views on proposed revisions to its guidance on the buffer and floor rates currently set out in APG 223.
APRA is proposing to:
– remove the quantitative guidance on the level of the serviceability floor rate, i.e. the reference to a specific 7 per cent floor. APRA will still expect ADIs to determine, and keep under regular review, their own level of floor rate, but ADIs will be able to choose a prudent
level based on their own portfolio mix, risk appetite and other circumstances;– increase the expected level of the serviceability buffer from at least 2 per cent (most ADIs currently use 2.25 per cent) to 2.5 per cent, to maintain prudence in overall serviceability assessments; and
– remove the expectation that a prudent ADI would use a buffer ‘comfortably above’ the proposed 2.5 per cent, to improve clarity of the prudential guidance.
APRA considers that these changes will provide greater flexibility for ADIs to manage and set floor rates which reflect the outlook for interest rates, while still ensuring sufficient prudence is retained in serviceability assessments through the proposed higher buffer rate.
This move is not intended to signal any lessening in APRA’s focus on the importance of sound lending standards, but to simply acknowledge that the current interest rate environment, and the
introduction of differential pricing, may not warrant a uniform mandated interest rate floor of 7 per cent across all products.As an alternative approach, APRA considered retaining but reducing the interest rate floor, and leaving the existing interest rate buffer unchanged. However, APRA considered that this approach would not address the emergence of differential pricing as effectively.
Prescribing multiple floor rates for different product types was also considered, but was regarded as too complex and unnecessarily prescriptive.
APRA’s guidance on the proposed level of the interest rate buffer rate is informed by analysis of previous Australian interest rate cycles and international regulatory practices for serviceability buffers. As set out in paragraph 34 of APG 223, APRA continues to expect that ADIs apply the buffer to new and existing debt, recognising that for certain types of mortgage products higher buffers may be appropriate.
