It’s no secret that house prices have dropped recently. As mentioned in one of our recent posts Is It Finally Time To Buy A House?:
The recent housing slump has been the longest and deepest property downturn in modern history
House prices are down anywhere from 10-15% depending on where you live. So I thought it was a good time to shout out to everyone looking to buy a new house, particularly the FHBs who haven’t yet bought.
Down, Down, Down
Yes, just like our food prices that have (apparently??) gone down, so too have both house prices and interest rates. Where once we were at a cash rate of 4.75% in May 2011 (leading to mortgage rates of around 7-8%) we’re now much lower.
We’re so low in fact, Australia has never been this low before. As such, mortgage rates are similarly lower than they ever have been leading to two things to watch out for.
1) New entrants might think the current historically low rates are “normal” and will persist for the entirety of their loan.
2) Buyers are now tempted to take out even bigger loans because the repayments are lower due to the lower interest rate.
Then vs Now
As a quick example let’s imagine you’re a mythical couple wanting to buy your first house at age 25. There’s two of you and you’re on about $130,000 a year combined, before tax income. How does your home buying powers compare now vs in 2011?
Well assuming you both earn about $65K each, your after tax, take home pay will be about $102,000 a year. Using the old 30% rule you could “afford” repayments of around $30,000 a year (about $1,150 per fortnight) for your new mortgage.
In 2011 with a mortgage interest rate of 7.5% p.a. that would allow for a $350,000 loan.
Now however in 2019 with a interest rate of 3.18% that same repayment would allow for a $575,000 loan!
So you could borrow a whopping 65% more money even though your financial position hasn’t really changed at all! Furthermore as stated in 1), most people that are brand new to mortgages and interest rates simply come onto the scene assuming the current environment is “normal” and will persist. A rather dangerous assumption…
Add this together with the recent decently big drop in house prices and everyone now has the ability to buy much bigger and fancier houses.
Taking Advantage Instead
While your ability to borrow money may have gone up by 65% since 2011, this doesn’t mean you have to. Yes, house prices have also gone up since then so you will technically have to borrow more money in order to get the same house. But with the recent price drops factored in it tips it more in your favour.
Instead of going “oh gee, I can borrow more money so I’ll now buy a more expensive, fancier house” you should be thinking “I’m going to buy the same quality house and get a far cheaper mortgage!“
If we go back to our calculator and look at that same, cheaper $350,000 mortgage, the two interest rates of 7.5% and 3.18% paint a stark difference.
Assuming we pay it off over our MTM target of 10 years, the 2011 rates have you on the hook for $158,557 of total interest paid. In 2019 though you’ll now only get slogged $63,007!
That’s almost $100,000 in savings just because of the lower interest rates! Bonkers.
Even Better Times Coming
Far lower interest rates and falling house prices undoubtedly make it a much more favourable buying market. However there are even more signs that things will get better still.
As such we could be entering into a really, really good time for FHB’s to enter the market and pay down their debt quickly too. Just make sure you don’t fall into the trap of buying the most house you can.
The benefits include: 1) How to pay off your mortgage faster than 99% of people with one hour a month of work 2) How to get rid of your debt and have the freedom to spend money on the things you love, guilt free 3) Clear outline of how to setup your expenses, mortgage and general finance 4) How offset accounts work and how to get the same result without being gouged by the big banks 5) How to cut through the crap and focus on the things that truly matter when taking down a mortgage 6) How to adjust the strategy so it works for you, even if you have kids, even if you only have one income 7) How to do all of these things and maintain a normal social life (and never be cheap).