Getting a Home Loan in Australia if you're living overs...
29 Nov 2023
For mortgage holders, default is one of the scariest words in the dictionary. Despite serviceability buffers and other responsible lending regulations, it’s a situation many Australians continue to find themselves in. It’s important to understand exactly what defaulting means, what to do if it happens and what you can do to avoid it.
If you wake up and realise your monthly repayment was due yesterday, it isn’t time to panic. There are several degrees to which you can be behind on your mortgage repayments before you are issued with a default notice.
Mortgage stress is sometimes used interchangeably with mortgage default, but in fact mortgage stress is a far broader term for any household struggling with repayments. The benchmark used by the ABS is if more than 30% of your pre tax income goes towards mortgage repayments, you are considered to be in mortgage stress.
If you’re late by a day, it likely won’t even be recorded as a late payment. Most lenders have a grace period where overdue payments are accepted with no consequence, typically between 7 and 14 days. The specific length of your grace period will be determined by your mortgage contract, so it’s worth having a look to see how much leeway you have.
After the grace period expires, most lenders will class you as being in arrears. This is usually recorded in your credit file as a late payment. While this will stay on your record and be noted by lender, if you apply for another loan in the future, it is a far less serious mark on your credit report than a default notice.
If you still don’t make your payment after a period of time in arrears, you will be issued with a default notice. The length of time can vary substantially, but typically will fall between 60 and 90 days after the initial payment was due. From the date you receive the default notice, you have 30 days to make your outstanding payments. This includes both the amount you are in arrears and any subsequent repayments you may have missed. For example, let's say your monthly repayments are $2000, due on the 28th of each month, and you initially missed the payment for January. Financial hardship has befallen you, and by the 1st of April, you still have made no payments and are issued with a default notice. To rectify the default, you will need to pay $6000 (the initial $2000, plus $4000 for February and March).
So, you’ve been issued with a default notice. The best thing you can do is to pay the amount you owe, in full and immediately. For most people though, whatever tough financial situation they have found themselves in will not magically sort itself out once the default notice rolls around.
If you are unable to pay the amount you owe, you have options.
Under the National Credit Code, borrowers are allowed to request a change to the terms of their loan contract on the grounds of financial hardship. Once a debtor makes a hardship application, the Act stipulates the creditor must respond in writing within 21 days notifying whether the application has been accepted. The lender cannot start enforcement proceedings under the mortgage until there is an outcome.
In your application, you must explain exactly why you are unable to pay your mortgage, how long you expect your financial problems to continue for and the amount you are currently able to pay. There are no substantive guidelines for acceptable hardship applications; this will usually come down to the discretion of the lender, and many lenders will have an application form you can complete.. Some of the main factors they will take into consideration include:
If there’s no feasible way you can pay what you owe before the house is repossessed, selling your property and moving somewhere cheaper will at least mean you aren’t left homeless. This is only an option though if you have positive equity on your house, meaning the value of the property is more than the outstanding amount on your mortgage. For example, lets say you purchased a home for $800,000, and have $700,000 of the principal loan amount remaining. If the property is worth more than this, then you can sell it and use the proceeds to pay off the amount owed. However, some people will find themselves in negative equity, which means they would not be able to raise the full amount of the mortgage even from selling the property. The residual would remain as a debt to the lender.
If you are still in default 30 days after receiving your default notice, your lender can begin repossession proceedings. They need to send you a ‘statement of claim’ which asserts that they are reclaiming the security, which you have 28 days to respond to. Eventually, you will receive a notice to vacate, which will have a date when the locks on the house are changed and the keys will be returned to the lender.
A popular theory, supported by the RBA, is that there are two conditions that need to be satisfied for mortgage default to occur. The first is for a reduction in the borrowers ability to repay the mortgage, for any reason, and the second is for the property to be in negative equity. The hypothesis goes that with only the first trigger, borrowers can fall into arrears, but should be able to sell the house at a profit. With only the second trigger, there is nothing preventing the borrower from continuing to repay their mortgage.
There are a variety of factors that can contribute to both of these triggers.
One of the sad things about mortgage default is it is often caused by things outside of the borrowers control that dramatically either reduces their income or increases their expenses. The loss of a job, illness, divorce or separation are all listed by the RBA as common examples.
Interest rates can rise dramatically in short periods of time. In April 2022, for example, the cash rate in Australia was 0.1%. By December, it had risen to 3.10%. In the same time, average variable owner occupied home loans went from 2.41% to 4.98%. For borrowers, this can translate to hundreds, if not thousands of dollars more in monthly repayments, which could push them into mortgage stress.
Lenders will generally try to stress test applicants to make sure they would still be able to afford their mortgage in these circumstances (APRA imposes a 3% serviceability buffer on lending from banks, for example). However, this is not an exact science, and plenty of people take on hefty mortgages unsuitable for their level of income or expenses.
If a house is depreciating in value faster than the mortgage is paid off, the property falls into negative equity. As you might expect, a weak property market is pretty closely correlated with the number of people in negative equity. While this doesn’t in itself mean the borrower will go into mortgage stress, it does mean that if they do, the last resort option of selling and downsizing will not be available should they default.
As you will have noted, often borrowers have no control over the circumstances that push them into mortgage stress and default. There are though several measures you can take to help reduce the chances of it happening to you.
It’s a good aim to have at least three months worth of repayments stored away to cover yourself if something happens. If your home loan has a redraw facility, you could make overpayments to get ahead of the mortgage, which you can withdraw if needed.
Loan to value ratio (LVR) is a measure of how big your loan is in proportion to the value of your property. When you are buying a property, your LVR will be determined by the size of your deposit. A 10% deposit means that you have a 90% LVR.
Having a high LVR increases your chances of going into negative equity, which can lead to mortgage stress and default. Borrowers with high LVRs may also be required to pay higher interest rates and Lenders Mortgage Insurance (LMI), which is a type of insurance that lenders require on higher risk loans.
As discussed, there are rules on responsible lending that attempt to prevent borrowers from taking on more than they can handle. At the end of the day though, borrowers still have some responsibility to assess their own situation and work out exactly how big a loan they can pay off.
It can’t be overstated how important it is to compare a wide range of products before settling on your home loan. A 50 basis point difference in interest rate could be the difference between mortgage stress and comfortable repayments, so it’s crucial to find the best deal you can.
Loans.com.au offers competitive rates for both variable and fixed home loan products. The upfront fees are low and there are no monthly upkeep charges.
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