Abandoned in the face of the global pandemic’s devastating effects on our local economy, loan-to-value ratios (LVRs) are making their way back into our financial system.

Loan-to-value ratios were initially introduced to curb rampant house price growth and improve New Zealand’s overall financial stability eight years ago.

In their most recent form, LVRs allowed no more than five percent of a bank’s total new lending allocation to investors with a deposit of less than 30 percent.

For owner-occupiers, 20 percent of a bank’s total new lending allocation was to those with a deposit of less than 20 percent.

These restrictions eased as the COVID-19 virus arrived in New Zealand and supportive measures like the mortgage holiday deferral scheme were rolled out; seeing some Kiwi households unwittingly move into the high loan-to-value territory.

Climate

Given the high demand for housing and increased competition resulting in sky-rocketing prices, New Zealand’s banks have had an open conversation with the Reserve Bank of New Zealand (RBNZ) about reintroducing loan-to-value ratios long before the official March 1 reinstatement date.

Given the high demand for housing and increased competition resulting in sky-rocketing prices, New Zealand’s banks have had an open conversation with the Reserve Bank of New Zealand about reintroducing loan-to-value ratios long before the official March 1 reinstatement date.

While on the surface, removing loan-to-value limits seemed to make it easier for high-loan-to-value purchasers to get a foot in the door, the question remained as to whether banks altered their internal serviceability criteria to reflect the changes.

Major financial institutions flagged concerns about the level of market activity, which in some estimates had reached fever pitch, becoming incongruent with responsible lending policies.

These obligations gave some of New Zealand’s banks cause to pre-emptively apply internal loan-to-value ratios, which saw serviceability testing at higher rates.

This atmosphere was fuelled when in November, Finance Minister and Deputy Leader Grant Robertson penned an open letter to Reserve Bank Governor Adrian Orr regarding ways in which they may ease recent rampant house price growth, which commentators have seen as being aided by current financial policy.

This included revising the use of the macroprudential tools utilised to spur economic activity in the wake of COVID disruption which ultimately had a supportive effect on asset prices.

When loan-to-value ratios return on March 1 they will target property investors, raising the minimum deposit back to the pre-COVID level of 30 percent.

When loan-to-value ratios return on March 1 they will target property investors, raising the minimum deposit back to the pre-COVID level of 30 percent.

The 30 percent deposit requirement for investors was in place for two years from 2016 and appeared to have somewhat of a temporary dampening effect on investor appetites.

Policy

In targeting low inflation of between one and three percent while aiming for full employment, the RBNZ has a mandate to avoid instability across the financial system.

However, the pressure is mounting to implement policies that address rising affordability constraints across our national housing market without unduly impacting other areas of the economy and first home property purchasers.

Reintroducing loan-to-value ratios for investors is a quick and relatively straightforward solution to combat rising house prices. They are an existing macroprudential tool that has when used in conjunction with a loan-to-value ratio for owner-occupiers, had a cooling effect on house price growth historically.

Effects

The reintroduction of a deposit requirement for New Zealand’s property investors is expected to have some dampening effect on house price inflation.

The reintroduction of a deposit requirement for New Zealand’s property investors is expected to have some dampening effect on house price inflation.

The Reserve Bank of New Zealand has said it expects this will be somewhere between one and two percentage points.

Acknowledging the result may only be temporary, the Reserve Bank has said reintroducing a loan-to-value ratio for investors is expected to play an important role in curbing the “irrational exuberance” of New Zealand’s residential property market, ultimately slowing the pace of value growth over the next year.

Where the renewed use of LVRs are expected to see banks’ appetite for residential lending curtailed, some are picking a speedbump in the road ahead for our high-performance housing market.

However, current indications for residential demand, improving business confidence, continued financial support and an economy showing resilience suggest the reintroduction of LVRs will do little to reduce the appetite for residential property across the country in 2021.

Debt-to-income ratios

Considered one of the ultimate weapons in the RBNZ’s macroprudential arsenal, debt-to-income limits go one step further than loan-to-value ratios.

The introduction of a debt-to-income limit has been a controversial point of discussion given it could yet be utilised to reinforce New Zealand’s financial stability and aid affordable housing targets. For many households enforcing a debt-to-income ratio would have a big impact given that wage growth has failed to keep pace with housing inflation for more than a decade.