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Co-founder & CEO of AllenWargent property advisory & buyer's agents, offices in Brisbane (Riverside) & Sydney (Martin Place) - clients include hedge funds, resi funds, & private investors.
4 x finance/investment author - 'Get a Financial Grip: a simple plan for financial freedom’ (2012) rated Top 10 finance books by Money Magazine & Dymocks.
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Sunday, 15 September 2013
40 year mortgages
Life expectancy increase
In the 20th century life expectancy broadly increased in developed nations from around 50 years to about 75 years.
Improvements in health, nutrition, medicine and vaccinations mean that today we might expect to live longer than our ancestors, and as a result, developed nations increasingly tend to have ageing populations.
According to UN statistics, Japan and Hong Kong have the highest life expectancy figures at more than 80 years; Britain comes in a shade lower at just under 80 years.
It is predicted by some that life expectancies will continue to increase in developed countries before peaking out somewhere in the mid-80s.
When I was in Singapore a few months back, I met a few young professionals who had taken out 40 year mortgages in order to buy somewhere to live in the city, which caused me to raise an eyebrow (actually both of them – I’ve never been able to just raise one eyebrow).
In the past, lenders were very rarely comfortable with loan periods of more than 30 years.
These loan products can appear attractive to younger buyers primarily as a ‘cash flow tool’, allowing a lower monthly repayment when buying a home in an expensive city.
In this respect, a 40 year mortgage is not dissimilar to interest only products which are popular with investors who want to acquire a property but do not necessarily have the goal of paying down the associated debt as quickly as possible.
There’s an argument to say that as people as living longer than was the case in times past, that a 40 year mortgage might make some kind of logical sense.
In reality, with people moving jobs and locations more frequently than in times past, many today remain in debt over the course of their working lives as they trade up to more expensive properties.
Problems with the 40 year mortgage?
There are no free lunches when it comes to finance and there are usually trade-offs to be factored in.
In the case of a longer mortgage period, the cost that is paid for the increased mortgage term is that over the life of the product the borrower pays significantly more interest and builds equity more slowly.
Typically, a 40 year mortgage would also attract a slightly higher interest rate (often fixed) to compensate the lender for risk and, as a general rule, the reduction in monthly repayment is not as great as one might hope for.
While the monthly repayment might be lower, over the life of the mortgage the terms tend to be less favourable.
Therefore, it may make sense for a borrower to consider whether they are over-stretching themselves before entering into a 40 year mortgage – are you buying more home than you can reasonably afford?
Balancing it up
While it seems likely that we’ll see more 40 year mortgages in the future, the majority of homebuyers would probably be more prudent to borrow a little less and use a shorter mortgage term where possible.
Due to the different tax treatment of investment mortgages in some jurisdictions, investors are often likely to favour an interest only mortgage as opposed to a 40 year product – the goal of a lower monthly repayment is achieved allowing the investor to claim a tax deduction on the interest component.
But will we see a more widespread use of 40 year mortgages in the future? Yes, probably.