Major changes are coming to the Credit Contracts and Consumer Finance Act (CCCFA), the piece of legislation put in place by the former Labour government that, in the view of most industry experts, has been largely responsible for wrecking the housing market.
As a priority, the National-led coalition government’s Commerce and Consumer Affairs Minister, Andrew Bayly, says he will remove the prescriptive affordability requirements for lowerrisk lending and undertake a substantive review of the CCCFA, including its penalty and disclosure regime.
Bayly says he expects to have identified the main areas requiring regulatory change by early April and have fresh legislation in place by mid-year.
Key to reforming the CCCFA will be scrapping the penalty regime which makes the directors and senior managers of banks and other lenders personally liable if they are found to have failed to exercise due diligence to ensure their businesses have complied with their duties and obligations under the Act.
The penalty for breach is a fine of up to $200,000 and/or any court-ordered damages. The banks have been clear that until this personal liability is removed, their tight lending policies will not change.
Of all the restrictions the previous government put in place to try to slow down the property market, the CCCFA changes in late 2021 have had the single biggest impact on house sales and prices because they made it extremely difficult to get a mortgage.
Six months after the change, loan approvals had slumped by 40% (see accompanying graphs). In December 2021, 81,900 mortgages were granted but by May 2022 this had fallen to only 45,440, according to research done by Opes Partners, a Christchurch-based property investment specialist.
Under the CCCFA, processing times for lending applications increased by 50% across all loan types. Bayly says he understands an estimated 6%-7% of mortgage applicants at the major banks, from customers who would have previously qualified for borrowing, had to be turned down because of the government’s prescriptive and intrusive lending rules.
Bayly says vulnerable consumers still need protection but this must be done without unnecessarily limiting other borrowers’ access to credit. In his view, it is the detailed regulations and the punitive liability regime that need reforming.
While Labour’s numerous anti-property investor/landlord policies had some effect, as did the Reserve Bank’s tightening of loan-to-value ratios after being loosened during the pandemic, the straw that broke the housing market’s back was the CCCFA changes, according to Andrew Nicol, Opes Partners managing partner, and the company’s economist, Ed McKnight.
Labour’s other property-related changes included the ringfencing of losses in 2019, extending the bright-line test from two years to five in 2018 and from five to 10 years in March 2021, revised tenancy laws in 2020 and 2021, and gradually scrapping interest deductibility on mortgage repayments for investment properties in 2021.
Nicol and McKnight have ploughed through 113 pages of coalition documents and identified the five most important policy changes affecting property investors.
When the CCCFA changes were signalled, some major banks acquired special software which could scan bank statements and put people’s spending into 17 buckets. “If you weren’t living as if you had a mortgage already, the banks decided you probably couldn’t afford one,” McKnight says.
“The prescriptive affordability requirements became allencompassing, stopping banks from lending money to people who were spending what was considered too much on coffees, Uber Eats, Netflix, Christmas presents and other spending seen as normal by most people.
“Before that, banks recognised people would spend what they had in their bank account but once they got a mortgage, they would rein in their spending to be able to afford the repayments. That went out the window.
“The number one cause of declining house prices is the inability to get finance. It led to fewer people taking out loans, fewer houses being sold and prices dropping.”
Caution after penalties
McKnight says another aspect of the onerous changes was banks becoming far too conservative because of the $200,000 penalty imposed on directors and senior management for breaching the CCCFA.
”That led to entirely unjustified and intrusive detailed vetting of customers’ spending. Many just put their mortgage applications on hold while they dropped their subscriptions, tidied up their ‘buy now, pay later’ deals and reduced their overall spending for three months to make a better bid, instead of getting a ‘decline’ from their bank. House sales fell and prices dropped to a market slump of about 15% across the board until they turned and started picking up last year.”
McKnight says there needs to be a simple test under the government’s revised CCCFA to approve loans for people who have a good income and can clearly afford a mortgage. The penalties for banks’ directors and senior management should be reduced or wiped altogether and the regulations tightened against loan sharks and truck and payday lenders. This was the original intention of the CCCFA but banks also became caught in its net.
Although the banks have softened their lending criteria since Labour made two tweaks to the CCCFA, McKnight doubts that after spending millions on software to assess customers’ spending habits, bans will revert easily and completely to the looser borrowing restrictions in place prior to the 2021 changes to the legislation.
“They will probably start to slowly relax the lending rules as interest rates come down and they want to grow their market share. I don’t think it’s going to be a flick of a switch – it will take several years,” McKnight says.
Agility the key
Mortgage adviser and Advice HQ founder and director David Green, who worked for banks and sat on credit committees before setting up his own business, disagrees with McKnight on this point. “Banks have to be agile enough to change their settings to different rules and regulations and market conditions,” he says. “During covid, banks changed their settings on a weekly basis. They can change a credit policy overnight and making more credit available is good for their business.”
Green says there is no doubt the CCCFA changes have created a huge credit crunch. “There were a lot of unintended consequences in the form of legislation looking for a problem that didn’t exist. There were never problems with mortgage arrears or delinquencies at banks. And increasing the penalties for directors and senior managers over some perceived offences they could commit has just made them too nervous to step outside the legislation, making it difficult for borrowers, mortgage advisers and the housing market in general.”
Squirrel Mortgages chief executive David Cunningham says he’s happy with the planned changes, saying the CCCFA was a sledgehammer designed to crack a nut. “It was originally about loan sharks, who are a fraction of the market. The sledgehammer missed the nut and hit the proverbial tree – the banks. “What happened was crazy. Banks, which are the bulk of the country’s financial system, don’t [do] and have never done risky lending. They did a perfectly good job before the changes, as evidenced by their incredibly low loss rates.”
Cunningham says Bayly’s changes indicate banks will probably go back to making their own assessments on borrowers and not be overly prescriptive by capturing every last expense, which is sound policy. “It also reflects the reality that a historical look at expenses isn’t the same as a forward-looking view of expenses.”
The perfect illustration of that, Cunningham says, is that during the past two years, borrowers have seen their interest rates treble in many cases, and the default rates and delinquencies are as low as ever. And that’s not because of a prescriptive CCCFA. Rather, it speaks to wise lending by banks whose interest is in looking after customers, both in terms of lending the money when it’s appropriate and not lending the money when it’s inappropriate.
Along with eased lending restrictions, investors will also pay less tax under the government’s plan to restore mortgage interest deductibility. For the current tax year, 60% is deductible, 80% will be deductible from 1 April and 100% from 1 April 2025. This is part of the coalition agreement, although Act wanted it to be brought in immediately.
Restoring interest deductibility (which other types of businesses enjoy) will substantially affect property investors’ cashflows. As an example, under Labour’s policy of phasing out tax deductibility, a property bought for $600,000 in 2021 is rented for $600 a week but the investor is topping up the mortgage by $30,000 a year for the next 15 years which is brutal, says Nicol.
Over 15 years, that would mean a negative cashflow of $131,000. “Under the coalition government’s restored mortgage interest deductibility, the first five years are still negatively geared because of high interest rates, but the next 10 are in positive territory and the investor saves $72,400 in tax. It makes property investing more profitable, leading to increased demand and prices being pushed up,” he says.
Other government changes will push up housing supply. On July 1, the bright-line period will be reduced from 10 years to two years, which McKnight believes will prompt a wave of selling, with tens of thousands of houses likely to flood the market.
Before the original two-year bright-line test was introduced in 2015 by John Key’s National government, just under 130,000 houses a year were being listed on the market. Between then and the extension of the bright-line to five years in 2018, 13,000 fewer properties were put up for sale and between 2018 and 2021, when the bright-line period was extended to 10 years, 8,000 fewer properties came onto the market – a total of 40,000 fewer homes being sold every year, about a 30% drop (see graph).
During that time, house prices have risen and investors, who don’t believe their rental is a good long-term investment, have the gains locked up in their properties while paying higher interest rates and tax. “Looking at the figures over the past few years, most decided not to sell if they, for example, had a three-year wait until they were outside the bright-line,” McKnight says. If they sold, it would have meant paying bright-line tax at their marginal rate, compared to no tax at all under National, with the added bonus of interest deductibility, so most have decided to ride it out. “It wasn’t a difficult decision,” McKnight says.
That is about to change, however. Opes’ research shows when the bright-line changes in July, about 250,000 properties purchased over the past few years will be outside the test. Not all will be investor-owned properties; perhaps 75,000-100,000 will fall into this category. And not all of these will come on to the market but Opes is picking between 1% and 10% will be put up for sale as investors struggle with cashflow.
Less risk for landlords
Labour’s changed tenancy policies, making it difficult for and lords to evict rogue tenants, will also be kicked to touch. Under the National/Act coalition agreement, landlords will again be allowed to issue no-cause 90-day termination notices to end a tenancy. This was removed by Labour six years ago, although research shows it was used by only about 2% of landlords.
Pet bonds will also be introduced, allowing tenants to keep a small pet if the landlord agrees. They will have to pay a bond. As landlords could not previously charge extra rent to cover any damage caused by a pet, there was no incentive to take on a tenant with a pet.
Opes says these and other minor changes to tenancy laws will mean investors perceive there is less risk in rental property investing. At the margin, McKnight believes there will be more protection as it will be a bit easier to be a property investor. “This will push up demand for investment property”.
One glitch to the market is the falling number of new house consents, but a hidden gem has been lurking in the market. In November, the annual total of new consents was 38,209, compared to May 2022’s peak of 51,015.
Opes says there has been no money to be made in development as the margins developers expect have been squeezed drastically. It is difficult for developers to get lending and it is also hard for clients wanting to buy their properties to get funding.
Nicol says development is a slow ship to turn, but hidden in the “Seniors” section of the New Zealand First/National coalition agreement is a proposal to allow any small structure up to 60 metres, requiring only an engineer’s report, to be built on the back of an existing property.
He points out that if a minor dwelling costs $200,000 and rents for $550 a week, the gross yield is 14.3% – a huge return for carving off a piece of unencumbered land in the backyard. McKnight says for investors struggling with higher interest rates, this might be one thing that can be done to improve cashflow – a classic property investment strategy.
Better all round
Changes by the coalition government can only mean a boost for the property market, say Cunningham and McKnight. Bank economists’ expectations are that house prices will increase by 7%-10% this year. McKnight says it is important the housing market functions as it should, meaning that people can sell when they want and can access borrowing. “The issue with the bright-line test is that it has caused people to hold on to their properties longer than they want to and stopped the market from functioning properly.”
He says there are far fewer listings than 10 years ago because of the unnatural behaviour of people having to hold onto their properties longer than they should. The changes will be better for sellers and buyers and controversially, McKnight says, they will be better for renters. “It is sad when people get into the mindset that anything good for landlords is bad for tenants. It is completely wrong.
“What the country needs is a healthy number of homes provided by landlords for tenants. The more landlords we have, the softer rents will be. It does, of course, depend on how steep house price rises are, but generally landlords and tenants are in the same boat.” ■