By John McGrath

We’ve been hearing a lot about record household debt in Australia, however statistics show that the bulk of this debt relates to housing and importantly, the value of our properties far outweighs that of our debt.

For the number crunchers out there, CoreLogic has provided an analysis of the Reserve Bank’s latest quarterly report on household finances. The key statistics are as follows:

  • The ratio of household debt to disposable income was 193.7% at the end of June – a record high
  • The ratio of housing debt to disposable income was 136.4%
  • The ratio of household assets to disposable income was 935.6% – a record high
  • The ratio of housing assets to disposable income was 516.5% – a record high
  • The ratio of household debt to assets was 20.7%
  • The ratio of housing debt to assets was 26.4%

What does this all mean? Basically, we’ve got a lot of debt but most of it is due to housing. Property is a stable and reliable asset class, so as long as unemployment remains low, I don’t believe there’s a doomsday scenario in terms of our record household debt.

However, every now and then we do need to think about our debt and how we’re managing it. This is especially important because of the size of our debt and the inevitability of interest rates rising, though they have a long way to go given we’re still at record low levels. On top of this, the property markets in Sydney and Melbourne are cooling, which means asset values are going to stabilize while interest rates are likely to rise (either via the banks independently or via the RBA).

This can make people nervous – not so much owner-occupiers but certainly investors. They’re the most volatile group of property owners and given the enormous number that entered the market during the boom in Sydney and Melbourne, I think it’s important for investors to take stock of their financial situation and be comfortable with their position.

Over the past few years, Sydney and Melbourne investors have been focused on the excitement of rapid capital growth and that’s entirely understandable. However, we’re now heading towards normal market conditions with little or no further growth expected for the next few years.

To be successful in property investment, you have to stay in the market long term and many Australians in my view can be too speculative. Most Australian property investors only have one investment property and they usually sell it too early. This often happens when the market is flat and interest rates go up. Smart investors ride it out. Nervous or uninformed investors sell and usually regret it.

Now’s the time to prepare yourself for the market change. You need to get yourself into a position where you’re paying the lowest interest rate you possibly can, on the terms that suit your future goals, so you can comfortably hold your asset through the flatter period of growth that’s coming.

The top two considerations for investors today are whether your loan is structured correctly for the long term; and whether you are making the best possible use of today’s low interest rates.

Remember – if you’re planning to hold your investment property for 20 years (great idea), then you’re going to be paying interest at varying rates during this time. The long term average is 7-7.5% but today you can lock in a fixed loan for 5 years (a quarter of your hold period) at 5%. Is this worth considering?

Most investors begin their journey with an interest only investment loan. Did you know you’re paying a premium for that right now? Due to APRA restrictions, banks are charging higher rates on investment loans than home loans and higher rates for interest only terms.

So, what can you do?

There are a couple of options.

If you’re on interest only, is it worth considering switching to principal and interest (P & I)? Your repayments will be higher because you’re paying off principal as well as interest (and principal payments are not tax deductible) but if your goal is to pay off the loan, would it be beneficial to go P & I for a few years while interest rates are this low?

I randomly picked a bank and looked at their rates online. On a variable interest only investment loan, they’re charging 5.35%. On a variable P & I investment loan, they’re charging 4.90%.

Next option. If you’re paying a variable rate, is it worth considering fixing? Right now, fixed rates are generally lower than variable rates. I picked a different bank and they’re charging 5.42% on variable interest only investment loans but also offering fixed interest only loans at 4.49% for 3 years or 5.09% for 5 years.

Deciding how to structure your loan is a very individual decision and I’m not recommending one strategy over another. However, I do advise every investor (and every home owner for that matter) to review their loan now with their accountant or financial advisor’s help – especially if it’s a few years old; and see if there’s a way to get a better deal.

If you’d like some advice with this, I recommend contacting McGrath’s mortgage broking division, Oxygen Home Loans for a Home Loan Health Check on 1300 855 699.

Given the bulk of our record household debt relates to housing, it’s critical to monitor the rates you’re paying and a lot has changed with lending products of late, so I recommend being fully informed of your options.