Homebuyers who are struggling with falling housing affordability will have yet another option to help them gain entry to the elusive property market.
The innovative Equity Finance Mortgage (EFM) is just one of a host of products aimed at addressing the worsening affordability issues of would-be buyers. An EFM provides up to 20% of the purchase price of your home, with no ongoing repayments and no interest for 25 years.
In return for no regular repayments, the EFM lender either shares in the property’s future gains or wears the losses. In effect, the EFM lender acts as a silent investor sharing in the rises and falls in your property’s value. In this way, EFMs work to improve the affordability of housing with the byproduct of aligning the interests of borrowers and lenders: simply put, the lender only does well if the borrower does well; if the borrower does badly, the lender does badly.
How EFMs came about
While EFMs have been designed, developed and patented by a research and investment firm, Rismark International, the roots of the EFM concept lie in the findings of the 2003 Prime Minister’s Home Ownership Task Force. My report, entitled ‘Innovative Approaches to Reducing the Costs of Home Ownership’, investigated several approaches to improving the accessibility of home ownership for Australians. The most radical idea put forward was a proposal allowing homeowners to finance their property purchases with both ‘debt’ and ‘equity’, thereby addressing the disconnection between the options available to consumers and to big corporations. That is, if businesses can fund their acquisitions with both debt and equity, why can’t the average homebuyer do the same?
A league of its own
EFMs are distinct from anything else in the market. They aren’t Shared Appreciation Mortgages (SAMs), as have been introduced from time to time in the UK. SAMs share only in the price appreciation; under an EFM the lender wears up to 20% of any loss realised on the home. Nor are EFMs the same as the ‘shared equity schemes’ being currently considered by a number of state governments. Besides the restrictive qualification criteria that state governments impose (they’re only targeting very low income borrowers), these schemes can also result in the government taking an ownership interest in your home.
Because EFMs are just mortgages,
the ‘homeowner’ does just that: owns 100% of their home. The lender never actually shares in the legal ownership of the property. EFMs are also very different from reverse mortgages: whereas reverse mortgages can leave a homeowner with zero equity, or even negative equity in their home, under an EFM the home owner is always guaranteed to own a minimum of 60% of the equity in their home.
An immediate observation is that these products effectively allow for people to borrow more money while holding their repayments constant. An alternative scenario shows that a homeowner can reduce their repayments (thereby increasing their ‘free cash flow’) by using an EFM in place of a traditional interest-bearing mortgage. The table on this page shows you how.
A more subtle but nonetheless impressive attribute of EFMs is their ability to help homeowners effectively ‘hedge’ against house price risk. A recent survey by the Reserve Bank of Australia found that up to 85% of the average Australian household’s wealth is held in one asset: their home. This allocation of wealth goes against the rules of diversification underlying modern financial theory. By using an EFM, the homeowner reduces the risk in owning a home by sharing the risk of price falls with the EFM lender. They can use the money they save in mortgage repayments
to diversify their own wealth portfolio by investing in another asset class, such as shares.
It has been argued that because of their ‘demand-side’ nature, EFMs won’t help to improve housing affordability. The logic behind this says that, as a result of enhanced access to housing finance, more people will enter the housing market, thereby placing upward pressure on the prices of the current housing stock.
This argument assumes, however, massive uptake of EFMs. Even if EFMs only represented 5% of all home loans distributed every year in Australia, this would equate to $10bn worth of EFMs per annum. Current market forecasts are for far lower levels of demand and it will be a long time before EFMs have any serious impact on property prices.
And, of course, if housing demand does increase because consumers take up EFMs in droves, then builders will respond by increasing housing supply, thereby leaving prices unchanged. At the end of the day, EFMs are all about improving consumer choice: they’re another option to help households along the road to home ownership.
While they may not be suitable for everyone, they are sure to appeal to a sizeable segment of the market.
For more information on EFMs, go to the product information site www.efm.info
* This article does not take into account your personal objective, financial situation or particular needs. Terms, conditions, fees, charges & lending criteria apply. We recommend that you read the EFM Disclosure Document available from one of our accredited lenders, and obtain independent legal and financial advice prior to entering into the EFM contract.
Disclaimer: Opinions and information provided in this article are those of the author only, and do not necessarily reflect the views of the publisher.
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