Government has promised 500 interest-free down payment loans to improve housing affordability. It’s a nice thought for making housing more affordable. However, will it cost us more in the long term? What will be the impact as the value of the US dollar continues to drop and inflation continues to rise? Will it artificially increase demand and cause housing prices to rise? Interest-free down payment loans, it’s a nice thought, but does it make sense?
To encourage home ownership, the Government will provide interest-free down payment loans for 500 qualified Bermudian families who have the ability to sustain a reasonable mortgage.
This from yesterday’s throne speech. It’s a wonderful thought. Give 500 qualified Bermudian families interest-free down payment loans. But what are the implications?
There are a number of issues that rise with the announcement of these 500 loans. First off, banks are already at the state where they will give out 0% down payment loans to qualified Bermudian families, so what difference does an interest free down payment make?
If you take a $1 million loan, 100% financed over 30 years at 9%, that works out to $8046.23 a month with $1,896,641.42 having been paid in interest.
If you take a $1 million loan, 95% financed over 30 years at 9% interest and 5% financed over 30 years at 0% interest, that’s $7643.91 a month for the bank loan, and $138.88 a month for the government loan. So, overall $1,801,809.35, would be paid in interest over the 30 years.
So, other 30 years, that $50,000 will save each family $94,832.1 on their mortgage, but they’d still have to pay back the $50,000, so they’d save $44,832.1 overall.
However, 500 loans at $50,000 apiece will mean a 30 year $2.5 million investment on the part of government. If you take that $2.5 million and invest it in a basic Bermuda dollar savings account at 5.25% compounded annually, that will amount to $11 million dollars after 30 years. Invest it in a stock market index at an average return of 7% and you’re looking at $17.8 million. Worse, invest it in some of the financial management companies on the island who have long term track records of over 15% per annum and you’re looking at $144 million.
So, is that $2.5 million investment in 500 people worth the return of $4.74 in savings when you compare it against earnings of $11, $17.8 or even $144 million if we invested it elsewhere? Would it be more logical to just write these families a cheque for $200,000 in 30 years than $50,000 loan now? In order to answer this question we need to examine the impacts of investing in those 500 people.
The problem we have is that without assistance, those families would be paying $8046.23 for a million dollar home, and with assistance they’d save some $263 a month in mortgage payments. The question that needs to be asked however is for how many families is $7,783 a month “affordable”?
Who makes $7,783 a month and can’t manage to save a $50,000 down payment? If $7,783 a month is “affordable” when $8,046 is not, the question must be asked whether or not these loans should be given out. The reality is that with the decline in value of the American dollar inflation is on the rise. The less the value of the American dollar, the less oil and food can be bought for that dollar and the Bermudian dollar declines right along side the American. What happens if we assist people into loans that they later cannot afford?
Further, the much larger question must be asked. If we’re giving free loans to the upper ranks of society to make housing more affordable when they couldn’t otherwise afford it, all we’re doing is increasing demand without supplementing supply. That increased demand from 500 people who can now buy a $1,000,000 house when they could previously only afford a $950,000 house will mean that we’re just going to drive prices up further which will make it harder for everyone who isn’t one of the lucky 500. Is this what we really want in the long term?
The government promised 500 interest-free down payment loans designed to improve housing affordability is a nice thought. However, will it end up costing us more in the long term? What will be the impact as the value of the US dollar continues to drop and inflation continues to rise? Will it artificially increase demand and cause home prices to rise? Interest-free down payment loans, it’s a nice thought, but does it make sense?