Repayments will rise for borrowers transitioning from interest-only to principal-and-interest

Repayments for a typical borrower facing a reset of their interest-only loan to principal-and-interest will jump by around $7,000 annually—a “non-trivial” increase that should be managed by most households, according to Christopher Kent, Assistant Governor of Financial Markets for the Reserve Bank of Australia.

Presenting analysis of the nearly $500bn in loans that are due to reset from interest-only over the next five years, Kent said the impact on household consumption is likely to be significant.

He added that the RBA believes many interest-only borrowers will be able to refinance their loans. Other borrowers have amassed a “sufficient pool of savings” or can shift savings from other channels to meet the higher repayments.

“Indeed, the substantial transition away from interest-only loans over the past year has been relatively smooth overall, and is likely to remain so,” Kent told the Housing Industry Association (HIA) in Sydney on Tuesday. “Most people are managing the transition pretty well. Non-performing loans in the past year, when many people have been switching, have not really changed very much, certainly not in NSW and Victoria.”

The remarks come more than a week after the RBA revealed that about 30% of all outstanding national mortgage debt will be subject to the home loan reset, which some analysts have likened to the surge in adjustable-rate loans that triggered the US subprime mortgage crisis.

Concerns that an interest rate shock could hit many interest-only borrowers prompted some participants at the HIA breakfast to suggest that a more “staggered increase in mortgage rates” might have been a better transition.

“The important thing partly is that if the customers are sort of understanding the products properly, and the banks are explaining the products clearly, one shouldn't be in shock,” Kent said.

He acknowledged that regulatory bodies, such as the Australian Prudential Regulation Authority (APRA), could have controlled the rise of such loans over time, rather than acting only when the proportion of such loans had reached a critical 40% of banks’ loan books.

The RBA estimates that about $120bn annually in loans will reset between 2018 and 2023.

Also read: The coming crisis with interest-only loans