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Low blows likely from low doc loans

Whenever someone says "it's different this time" while talking about business cycles, I generally look at my watch, make an excuse and wander off. But in at least one interesting respect, the Australian credit cycle is different this time, writes Alan Kohler.

This time there are low doc loans, also known as "self-certification" loans. According to the Australian Prudential Regulation Authority, between 15 and 20 per cent of all mortgage lending at present is low doc (or $3 billion to $4 billion a month).

Regulators are alert, and possibly alarmed: yesterday APRA doubled the capital needed by mortgage insurers to support low doc lending, while both the Reserve Bank and Tax Office are worried about the continuing boom in these type of loans.

Low doc simply means you don't have to prove your income with a group certificate or tax return: you say what it is and the banker believes you, or at least gives you the money, whatever he or she believes.

With interest rates apparently about to start rising, a lot of people are wondering what will happen.

Low doc lending is the most important and the most intriguing manifestation of the sales culture in banking about which RBA governor Ian Macfarlane has been complaining so much and may do so again on Friday.

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Since the last time interest rates went up, banking has changed fundamentally. Now when the customer says the words "low doc", a magical transformation comes over the banker: mention an income figure and the smiling salesperson, err, banker, just writes it down - no proof required. Four years ago, when the term low doc snuck into the Australian banking glossary, it came with a big interest rate premium; now there is often no premium at all.

It's hard to generalise because low doc can mean many things: up to 60 per cent loan-to-value ratio may be lent uninsured; up to 80 per cent insured; some carry a rate premium, some don't.

The most aggressive low doc lender in the market at present appears to be a 95 per cent LVR low doc loan from Mobius, which is half owned by Allco and half by GE Capital (it came with Wizard Homes Loans, which GE bought from Mark Bouris and the Packers last year).

The lender doing the highest proportion of them is Adelaide Bank, 40 per cent of whose new loans are low doc.

And there are many different reasons for customers not wanting to provide proof of income: they can't be bothered; they were knocked back for the loan elsewhere because their income was too low and now they're lying; a small business whose takings are down right now but will pick up any minute (I promise!); they are lying on their tax return and want to tell the bank the - higher - truth.

Regulators find many of these reasons distressing. Yesterday, APRA issued new capital guidelines to lenders' mortgage insurers requiring twice the capital support for low doc loans than for normal loans.

A spokesman told me they were concerned about the lack of history with this type of lending and felt it was important to ensure that risk was being priced correctly.

Also, the Tax Office has been looking into the subject for six months and doing some test audits: 70 per cent of low doc loan applications do not tally with the borrower's tax return. This could be fertile ground for ATO auditors, although the consequences of mass audits could be horrible for the economy.

In many cases a low doc housing loan is simply a business loan in another guise - at a lower rate than the 11 or 12 per cent that the banks usually slug small business people.

The reason Angelo Malizis at Mobius is able to offer 95 per cent LVR low doc loans at 6.99 per cent interest (through Wizard and other retailers) is because his 50 per cent shareholder, Allco, has set up its own mortgage insurance company, which is thought in the industry to be preparing an assault on the existing LMI duopoly (which is an interesting development in itself). But Mobius's interest rate may have to rise once APRA's new capital requirements bite.

The general assumption among bankers and economists, which I tend to share, is that as long as unemployment remains low, home loan default rates are unlikely to rise as a result of a half a percentage point or so increase in the cash rate.

But then again things are different this time. Although the average household debt service ratio (interest to disposable income) is only 9.3 per cent, some people are very heavily geared and many of them may have lied about their income or, at best, been unduly optimistic about how their business was travelling.

How much of a rate rise would it take for an uncomfortable number of them to be forced to sell their properties? No one knows.