Buying a home with a 0 deposit? Does the Reserve Bank have the final say?

LVR: past and present

LVR stands for loan-to-value ratio: the mortgage a bank provides as a percentage of a property's valuation. For example, if a property valued at NZ$1,000,000 is bought with a deposit of 200,000 and a mortgage of 800,000, its LVR is 80%.

As property prices continued to reach new highs, the Reserve Bank formally introduced LVR lending restrictions in 2013. Commercial banks and financial institutions nationwide could allocate only 10% of their annual lending to homebuyers with deposits of less than 20% of the purchase price. The aim was to regulate mortgage lending and curb soaring house prices, while strengthening the stability of New Zealand's financial markets and protecting the banking system by reducing mortgage default risk.

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Since then, LVR restrictions have acted as a control valve for the property market, with lending rules alternately tightened and eased. The most recent adjustment was in 2019, in January, bringing the loosest settings to date.

• Lending to first-home buyers with deposits below 20% could not exceed 20% of banks' total lending to new homeowners.
• Lending to investors with deposits below 30% could not exceed 5% of banks' total lending to investors.

Under these restrictions, the vast majority of first-home buyers have consistently needed a 20% deposit, while investors have faced even stricter lending rules. Consequently, every adjustment to LVR restrictions over the 7 years since their introduction has attracted considerable controversy.

LVR restrictions: what would removing them mean?

One of the strongest criticisms of LVR restrictions is that they raise the barrier to entry for most first-home buyers, limiting their ability to buy a home to live in by borrowing more against smaller savings. Former Reserve Bank Governor Graeme Wheeler defended the policy, however, saying it also protected first-home buyers: “If the housing bubble bursts, it will cause enormous losses for individuals, families and the economy. If house prices fall because of a financial crisis, first-home buyers will be the worst affected.” Unfortunately, several years later, although Graeme did not predict the origin of the economic crisis correctly, his prediction of the outcome has proved unhappily accurate.

BNZ head of research Stephen Toplis had already forecast that the Covid-19 pandemic would cause New Zealand house prices to fall by 10% over the remainder of this year. The Reserve Bank's proposal to remove LVR restrictions at this point is clearly part of its macroeconomic policy response to maintain financial stability. It seeks both to stabilise existing house prices and reduce losses for homeowners, and to lower the barrier to buying so that more people enter the market.

 

An opportunity for first-home buyers?

Some economists support removing LVR restrictions. NZIER principal economist Christina Leung believes a deteriorating labour market is likely to reduce housing market activity. “Removing LVR restrictions for at least 12 months will help offset some of the weakness in demand caused by the Covid-19 outbreak.” Together with the previously announced mortgage repayment deferrals, the policy “will reduce the likelihood of forced sales and sharp falls in house prices”.

Real Estate Institute of New Zealand (REINZ) chief executive Bindi Norwell said: “First-home buyers are in a very difficult position during Covid-19, with the value of their KiwiSaver funds available for a first-home purchase far below what many had expected. The proposed removal of LVR restrictions, although temporary, will therefore be a considerable help in getting them into the market.”

However, as some real estate agents have pointed out, loan applications are more often declined because of applicants' ability to service a loan than because their deposits are insufficient. RBNZ Deputy Governor Geoff Bascand also said he was more concerned that banks would remain overly cautious about lending even after LVR restrictions were removed than that the change might unleash a housing market storm.

Indeed, banks may remove deposit restrictions if the proposal is adopted, but their income requirements for applicants will remain unchanged. Borrowers will still need income that the bank accepts.

• Wages and salaries. At present, this is the most stable form of income and the easiest for banks to accept.
• Rental income. This includes income from letting spare rooms in an owner-occupied home and rent from investment properties.
• Self-employment income. Banks may assess this according to the industry involved and how severely the pandemic has affected it.

For first-home buyers with good credit records and stable incomes who were previously kept out of the market simply because their youth meant they had not saved enough, removing LVR restrictions clearly offers a good opportunity to enter. But for the many people worried about both losses in their KiwiSaver funds and losing their jobs, whether LVR restrictions exist may make little difference.

 

A new spring for investors?

While believing that removing LVR restrictions would help first-home buyers, Bindi Norwell also astutely observed: “Interestingly, the Reserve Bank's proposal appears to make no distinction between first-home buyers, owner-occupiers and investors.” Norwell considered it “encouraging news at a time when the Covid-19 pandemic is adversely affecting the finances of countless people across the country”.

As early as the beginning of April, independent economist Tony Alexander suggested that the Government might adjust policy to stimulate the property market and bolster confidence in New Zealand's economic recovery. At the time, he saw an easing of LVR restrictions as the most likely option. Tony believes even small structural changes to bank lending policies can have a substantial effect on ordinary people's behaviour in the property market. Removing lending restrictions would therefore “provide a major stimulus to property buyers, stimulating the market and lifting house prices”.

He believes the policy adjustment would have a twofold benefit for investors:

• Investors could borrow more with the same deposit;
• Or borrow the same amount while retaining more of their savings.

Either approach would effectively lower barriers to investment, encouraging more investors into the property market and more aggressive investment behaviour, thereby pushing up house prices.

Veteran financial journalist David Hargreaves therefore questioned the Reserve Bank's timing: “Is now a good time for banks to offer first-home buyers 95% loans?” He believes that, even without such restrictions, banks would be very cautious about offering high-LVR loans, particularly to first-home buyers, given the current rise in unemployment. But the policy change would certainly create opportunities for investors, bringing changes to the market that differ from the Reserve Bank's expectations, “although temporarily removing lending restrictions now will mean house prices do not fall as much as investors had expected”. He therefore believes that, at the very least, the Reserve Bank should retain restrictions on lending to investors.

These views clearly run counter to the Reserve Bank's thinking. Geoff Bascand said that in the current economic environment, house prices were more likely to fall than rise steadily, and investors would wait on the sidelines if they expected asset prices to decline further. The Reserve Bank will, of course, make its final decision after gathering feedback over 7 days. If LVR restrictions are removed, it will monitor commercial banks' related activities over the following 12 months and review feedback to decide whether to reinstate the restrictions in future.