Loans worth almost half the nation's GDP are on interest-only terms. We look at the data behind why the RBNZ has expressed concern over these levels, and who is most vulnerable

The prevalence of interest-only lending has been in the spotlight in 2017 – largely due to the Reserve Bank honing in on its risks.

The initial focus was on residential property ‘investors’ and their attraction to it to keep current cash flows minimised. They need to do that if their implied goal is capital gain – operating costs (mortgage payments, insurance, rates, maintenance, etc) may be covered by rents, but the real payoff for them comes if and when they sell what they hope has been an asset that rose in value, thereby generating tax-free gains.

But interest-only lending becomes a financial stability risk “if everyone does it”, the market turns and values decline.

With one third of all houses now rented (621,400 such properties as at December 2017), the numbers are significant.

In fact, residential property investors have borrowed $68.5 bln and their obligations involve substantial leverage.

On average, each rented property has $110,200 in debt. That is 30.4% of the national lower quartile house price in November. That compares with owner-occupied properties (of which there are 1,164,600 in New Zealand) who have an average of $147,700 in debt per property, which in turn is 27.4% of the national median house price.

These averages don’t reveal the levels recent investors or recent house buyers are committing to. (RBNZ data series C32 give the gross amounts involved but not the numbers of loans that supports, so per-borrower data can’t be calculated.)

Despite that higher level of average borrowing, borrowers who live in their own homes are much more likely to be paying down some principal with each mortgage payment. In fact, 84.6% are, building equity and financial resilience.

Residential property investors have the majority of interest only debt in the housing sector – $28.7 bln compared with $25.9 bln for owner-occupiers.

RBNZ S32   of which
as at November 2017 Total interest
& Interest
  $ bln % % % %
Owner-occupied housing 172.006 15.1% 6.2% 78.4% 0.3%
Residential property investor 68.475 42.0% 3.7% 54.3% 0.1%
Business 103.756 37.4% 30.4% 29.2% 3.1%
Agricultural 60.379 63.6% 23.7% 12.4% 0.3%
  ———– ———– ———– ———– ———–
Subtotal $404.616 32.6% 14.6% 51.8% 1.0%
Personal loans 11.105 n.a. n.a. n.a. n.a.
Financial institutions 8.445 12.6% 34.2% 34.2% 19.0%
Other 2.665 23.1% 19.8% 25.1% 32.0%
Total all lending $426.831        

But as this table clearly shows, borrowers for commercial purposes also like interest-only arrangements. Some of the lending classified ‘business’ will also be property-related, both by property developers, and by commercial property investment companies. Most business overdraft arrangements are also interest-only.

Rural borrowers have special seasonal working capital needs – often based on overdraft arrangements as well – that also lend themselves to interest-only.

All up, more than $133 bln of bank lending is on an interest-only basis involving no progressive principal repayment obligations (other than when the loan terminates). While this is not a high proportion in terms of the total amounts borrowed in the New Zealand banking system, it does represent a little under half the nation’s annual GDP.