All debt ultimately needs an "exit strategy".
Debt and Exit Strategies
If you are 35 years of age or older, and getting a mortgage, chances are you have been asked about your "exit strategy".
Similarly, if you have business borrowing, there is always a focus on the term in which your borrowing commitment will be repaid.
For mortgages, or "regulated credit", we have seen greater scrutiny of credit since The National Consumer Credit Protection Act 2009 ("NCCP") was introduced. This legislation has the objective of protecting consumers, and to enforce professional standards in the finance industry.
A large part of NCCP discusses responsible lending practices. Credit providers require evidence that a loan can be repaid without any undue hardship.
So if your loan term (say 30 years) extends past your proposed retirement age, then your credit provider must make reasonable enquiries to determine how this commitment will be made.
The Retirement Age
Credit providers all have different interpretations of NCCP, this can mean they assess older borrowers in different ways.
As a general rule, an acceptable retirement age varies between 65 and up to 75 years. As a rule, if no exit strategy is provided, then the loan term cannot exceed the expected retirement age.
The purpose and security provided for the loan has a large bearing on credit appetite. If an owner occupied property (as opposed to an investment property) is the security for the mortgage, a clear exit strategy will be expected. "Downsizing" has not been an exit strategy that is accepted by most credit providers.
This said, there are often valid reasons why debt may remain a good strategy such as:
- With Interest Rates so low, the customer may have a better opportunity cost of funds rather than paying off debt;
- The debt relates to investment or business purposes and is tax effective;
- You may wish retain property ownership within the family unit for a period of time.
Legal Position - ASIC Regulatory Guide 209
Perhaps recognising the nature of people living longer and wanting to stay in their property, ASIC recently clarified their position on downsizing in particular:
"In most cases, consumers should be able to meet their payment obligations under a credit product from income rather than equity in an asset. However, there may be circumstances where this is not a reasonable position, or the sale or other use of an asset to meet repayments may be anticipated by the consumer, and form part of their strategy for meeting their financial obligations under the new credit product."
This position was supported by a case study where a 55 year old planning to retire and downsize her home at 65, "at the point that she can no longer comfortably afford repayments, intends to sell the home and downsize". Further, "If her likely equity position will be such that she can readily pay the outstanding balance of the loan at the time of the planned sale, it is reasonable to assess the loan as ‘not unsuitable'."
This is a softening of the previous interpretation.
Credit policy is becoming increasingly structured in relation to retirement strategy. With the objective of providing greater transparency to borrowers there are three acceptable strategies for exiting debt:
|Other Financial Assets||"Debt Cover". Other financial assets exist that are more than the current loan limit.|
|Co-Applicant Support||Another applicant who is not within close retirement age who can provide loan servicing support.|
|Downsizing||Intention to sell the home at retirement - showing a material amount of property equity.|
The commercial lending landscape is changing quickly, with a real push to facilitate more "flexibility" for business owners using commercial property as security.
Banks are offering higher loan to value ratios and longer loan terms.
This is where the regulators and government are often at odds, and in fact, this shows some contradiction in their mindset to the regulated environment above.
Financiers and Government will say that is gives people an alternative to using residential property as security for their loan, and give more flexibility in managing their debt over a longer period.
The age of the individual borrower/guarantor, whilst still relevant, is a less material component.
One aspect is the push for amortisation (principal repayment) at the outset of a loan. This is positive, as opposed to the current system of an initial interest only period then short term amortisation which can cripple cash flow.
Debt can still have a role as we get older. Like all financial strategies, start with the end in mind. Have a clear plan of where you want to go and use debt to your advantage.