Jill Kerby

MORTGAGE INDEMNITY BONDS - A PRUDENT BORROWING TOOL FOR BUYERS, NOT TAXPAYERS

It’s only one of 70 or so proposals in the Construction 2020 Strategy for Ireland, but the government’s idea of committing the taxpayer to pick up a potential negative equity bill for the next generation of first time buyers has hit such a brick wall of incredulity that many are now suggesting if will be quietly withdrawn.

This monumentally inept idea involves first time buyers purchasing newly built houses with just a 5% down payment and the taxpayer, via a mortgage insurance dictat by the Department of Finance, providing a balancing 20% negative equity guarantee to the lender. 

This insurance was commonplace once, bought by people who borrowed more than 75% of property asking price: it was known as a mortgage indemnity bond. (MIB)

This is a definition of the bond from the 1999 edition of my book, The TAB Guide to Money Pensions & Tax:

“If you borrow more than 70%-75% of the value of your home, you may also have to buy a mortgage insurance bond from the bank or building society. These bonds guarantee the total repayment of your loan in the event of your home being sold for less than the outstanding loan amount. Indemnity bonds usually cost 3.5% of your borrowings above the specified limit and, while the cost can be absorbed into your 20 or 25 year mortgage term, it is more cost effective over the longer term to pay it all at the offset.”

Mortgage insurance bonds were already going out of fashion by 1999. The Celtic Tiger property boom was already established by then and with taxes falling, employment, wages and productivity rising and generous mortgage interest relief and first time buyer grants, the banks and building societies were already loosening their lending criteria. 

By 2002, after the massive post 9/11 credit stimulus from central banks, just about anyone with a beating pulse could raise a 100% mortgage for a home and even investment properties. The pimply-faced youth recruited to sell mortgages by the banks and mortgage brokers’ had never heard of MIB’s and old timers who worked beside them were too busy counting their commissions and bonuses to give this prudent tool a second thought.

Twelve years later we’re all paying the price of the absence of prudent lending policies and an entire generation of the most productive citizens are prisoners of negative equity

Given that the price of the average home in Dublin is over €399,000 or over 10 times the average industrial wage, is a 20% - 25% mortgage indemnity bond requirement a good idea?

I think so.  But the buyer should be required to pay for it, not the taxpayer and that means a higher, not lower down payment or an even higher than necessary monthly repayment if the MIB is capitalised over 30 years and that won’t be popular.

Messrs Kenny and Gilmore, at the launch of Construction 2020 said the mortgage insurance aims to help first time buyers get on the property ladder by lowering the bank’s lending risk and buyers’ well-founded fears of negative equity.  Unfortunately, all is really shows is that policymakers have learned nothing from the property bust and its causes – artificially cheap credit, over-lending and a disregard for its inevitable consequences.

Construction 2020 primary aim, says its detractors, is to boost construction employment by building more houses and satisfying high demand, especially in the capital. The mortgage insurance subsidy might encourage the banks to lend more easily but it will inadvertently boost the price of those new houses.

I doubt if the Taoiseach and Tanaiste really want young first-time buyers to end up as indebted as their older siblings. But they know that when property prices finally go up, this eases negative equity values for everyone, it makes the bad loans on the banks’ books look healthier and this is turn might impress ECB bank stress testers and the bond markets. 

Outwardly, at least, “recovering” property prices suggest a recovering economy.

Anyone who was burned by the boom knows better.  We can only hope that the under 30s, the only cohort untouched by the property debt fiasco will see this latest ‘stimulus’ proposal for what it is:  a cynical exercise in potentially driving them into a lifetime of over-indebtedness.

They need to ignore all the noise and concentrate on one thing:  is this property affordable? Can I meet ALL its costs – mortgage, maintenance, insurance, taxes – on a single or joint salary?

They also need to ask, what happens if we only have one salary or it falls? Do we have emergency saving fund in place and do we fully understand the consequences of negative equity or arrears?

If I was a first time buyer in this economy and couldn’t put down at least 20% of the property asking price, I know what I’d be doing:  I’d buy a mortgage indemnity bond. 

Just in case.

If you have a personal finance question you would like answered, please write to Jill at jill@jillkerby.ie

MORTGAGE INDEMNITY BONDS ARE A GOOD IDEA, JUST NOT PAID FOR BY THE TAXPAYER

It’s only one of many proposals in the Construction 2020 Strategy for Ireland, but the government’s idea of committing the taxpayer to pick up a potential negative equity bill for the next generation of first time buyers has hit such a brick wall of incredulity that many are now suggesting if will be quietly withdrawn.

This monumentally stupid idea involves first time buyers purchasing newly built houses with just a 5% downpayment and the taxpayer, via a mortgage insurance dictat by the Department of Finance, providing a balancing 20% negative equity guarantee to the lender. 

Once upon a time, this insurance was commonplace and it was purchased by buyers who borrowed more than 75% of the asking price of their home. It was  known as a mortgage indemnity bond. (MIB)

This is a definition of the bond from the 1999 edition of my book, The TAB Guide to Money Pensions & Tax:

“If you borrow more than 70%-75% of the value of your home, you may also have to buy a mortgage insurance bond from the bank or building society. These bonds guarantee the total repayment of your loan in the event of your home being sold for less than the outstanding loan amount. Indemnity bonds usually cost 3.5% of your borrowings above the specified limit and, while the cost can be absorbed into your 20 or 25 year mortgage term, it is more cost effective over the longer term to pay it all at the offset.”

Mortgage insurance bonds were already going out of fashion by 1999. The Celtic Tiger property boom was already established by then and with taxes falling, employment, wages and productivity rising and generous mortgage interest relief and first time buyer grants, the banks and building societies were already loosening their lending criteria. 

By 2002, after the massive post 9/11 credit stimulus from central banks, just about anyone with a beating pulse could raise a 100% mortgage for a home and even investment properties. The pimply-faced youth recruited to sell mortgages by the banks and mortgage brokers’ had never heard of MIB’s and old timers who worked beside them were too busy counting their commissions and bonuses to give this prudent tool a second thought.

Given that we live in one of the most debt burdened states in the world and the price of the average home in Dublin is over €399,000 or 10 times more than the average industrial wage, is a 20% - 25% mortgage indemnity bond requirement a good idea?

I think so.  But the buyer should be required to pay for it, not the taxpayer and that means a higher down payment and that might discourage some buyers, which is the last thing the government wants.

The government claimed last week that this mortgage subsidy is all about helping first time buyers get on the property ladder by lowering the bank’s lending risk and buyers’ well-founded fears of negative equity.

Dear, oh dear.

If that really is its motivation it only shows that government policymakers have learned nothing from the property bust and its causes – artificially cheap credit, over-lending and a disregard for its inevitable consequences.

The Construction 2020 document, suggest political commentators is nothing more than trying to boost construction employment and even more cynically, to boost house prices. (More mortgage money chasing inadequate supply is sure to push up the price of any newly built home in the Dublin area.)

Higher property prices, on paper at least, lowers the negative equity value and makes the bad loans the banks are holding look a lot better to EU stress testers and the bond markets.  Outwardly,  “recovering” property prices suggest a recovering economy.

Anyone who was burned by the boom knows better.  We can only hope that the under 30s, the only cohort untouched by the property debt fiasco that began more than a decade ago will see this latest ‘stimulus’ proposal for what it is:  a cynical exercise in driving them into a lifetime of over-indebtedness.

ANNUAL WATER CHARGE OF JUST €240…BUT FOR HOW LONG?

Since my little household comprises three adults – two parents and The Child, age 20 and still in full time education – I thought it might be useful to scale up the “average” 2.7 person household water bill of €240 that the Environment Minister Phil Hogan’s was quoting last week.

According to the Minister, the actual cost of a litre of water will be determined in August, but whether your household has been metered or not, said Mr Hogan, the “average” cost for that 2.7 person household should not be more than €240.

He also mentioned that the “average” person uses 140 litres of water a day, which works out at 51,000 litres per annum per person. This means that 2.7 adults would therefore use 137,970 litres of water over 365 days.

One cubic litre (CL) equals 1,000 litres, and water is priced in cubic litres, so the 2.7 members of that ‘average’ family will use 137.9 CL’s of water a year. Divide €240 by 137.9 and we discover that a cubic litre of water will cost €1.74 for the “average” family of 2.7 people.

Interestingly, this price is just about halfway between an “average” price per litre in the UK of €1.63 and €1.91 in the EU which is quoted in a May 2013 report on European domestic water charges, by the independent think-tank PublicPolicy.ie.  (see http://www.publicpolicy.ie/domestic-water-charges-in-europe/ )

If that was all there was to it, it would be very easy to work out how much our water is going to cost. In my case, with three (not 2.7) adults in the house (two parents and one child over 18), my bill will be €266.74 (for 153,300 litres of water or 153.3 CL’s, based on 140 litres use per day, per person.)

However, every household, including mine, will be getting 30,000 free litres of water free or 30 free cubic litres. This amounts to a savings of €52.2 worth, assuming a price of €1.74 per CL. (Families with children under 18 will get an additional 3.8 CL’s free per child.)

This means the average family of 2.7 should only have to pay for 107,970 litres/107.97 cubic litres, not 137,970 litres/137.9 cubic litres if they stay within the 140 litres of water usage rate.  At €1.74 a cubic litre, this should bring their “average” €240 bill down to just €187.86 per annum. 

My bill – for three actual people – should drop from €266.74 to €214.54 if we stay within the 140 litres of water usage per person per day.

Meanwhile, PublicPolicy.ie and other analysts of water usage also claim that once a household is metered, their water consumption typically falls by 15%. The average family of 2.7 people should therefore see their 137,970 litre consumption eventually fall to 117,275.

Presumably, when the 30,000 litres of free water is discounted and after the 15% consumption savings, that “average” family might only pay for 87,275 litres of water/87.27 cubic litres. At €1.74 per cubic litre, their bill could fall to €151.84 per annum, not the €240, the Minister quoted for them.

(My three person household bill should fall to €174.52 per annum from the €266.74.)

If only.

The problem with the Minister’s announcement last week wasn’t just the lack of pricing for a litre or cubic litre of water, but that even the assumption that we use 140 litres of water each a day might be incorrect.

The PublicPolicy.ie study claims that average Irish consumption is 150 litres per person per day, as it is in the UK, the former head of Northern Ireland Water Trevor Haslitt told Morning Ireland’s Rachel English.

A cubic litre of water in the UK costs €1.63, accoriding to PublicPolicy.ie which, coincidentally, amounts to a water usage bill of €240.94 per annum for a 2.7 person family.

However, other UK water companies, like South East Water, claim that typical daily use by their customers is 160 litres, at a cost of £88 per person (€107) per annum or €290 for a 2.7 person family.

Yet Mr Haslitt stated that the average annual household bill in the UK is €480, not €240.94 or €290. It is double the €240 bill Minister Hogan claims the average Irish household will pay for the next two years.

The disparity, very simply, is because UK household water bills include standing charges and taxes, neither of which will apply here. Not all of them offer free water allocation or the discounts some Irish people will receive.

I for one won’t be surprised if, next August, the Commission for Energy Regulation announced that the price of a cubic litre of water does end up being in the region of €1.70, assuming daily usage of 140 litres.

But I will be very, very surprised if that “average” bill of €240 a year doesn’t double when the two year introductory period ends in 2016. 

RENT A ROOM SCHEME ONLY APPLIES FOR OWNER OCCUPIERS

PMcC writes from Dublin:  I am being transferred to the United States for at least two years.  Our two children no longer live at home and we now have two foreign students living here under the Rent-a Room scheme.  The younger of our children is also in college, doing post-graduate studies but is in rooms. I am wondering if we can maintain our Rent-a-Room scheme if we no longer live here, even temporarily. If our daughter moved back in, would that mean that we still qualify?

The Rent-a-Room relief scheme, which requires you to register with the Revenue, is designed for owner-occupiers, that is, it must be occupied by you as your principal private residence. If you and your wife own the property, and she remained in Ireland as a full-time occupant of the house, she could still collect half the rent, tax-free.  The maximum tax-free amount that can be earned in any year is €10,000 so she could collect €5,000 under the Scheme.

 
SHOULD I CASH IN MY BUY OUT BOND at JUST 55?

DD writes from Galway: I cannot seem to get a clear explanation from my pension provider regarding my personal retirement bond (PRB) options.  Its value today is €33,000 and I am 55 years of age. It will only provide me with a tiny pension at retirement. I can cash it in anytime now as the original employer is no longer in business. I have no other policy or pension and am unemployed. When is the best time to cash it in? If I leave it until my retirement, will it affect my pension entitlements? How much tax will I pay?

Your private retirement bond (PRB – also commonly known as a buy out bond is either purchased as an option you exercise if you leave your employer’s service and do not want to leave your pension fund with it until retirement, or, by your occupational pension trustees on your behalf if the company scheme is being wound up. 

The current value of your Buy Out bond at just €33,000 is very low. I suspect it is less than one and half times what your final salary was with your ex-employer, that being the multiple of salary that everyone in an occupational pension can claim, tax free from their pension fund (or buy out bond in your case) when they retire.

With bond rates so low – and these rates determine the size of the pension income you would receive – annuitising just €33,000 right now would produce a pretty insignificant annual income stream – perhaps no more than €100 a month. Inflation will eat relentlessly away at its spending power.

Even if your bond was worth €50,000 in 12 years time when you reach the official state retirement age of 67 in your case, it would still only produce an income of about €200 a month at today’s bond rates. We don’t know what the state pension will be worth when you retire, but such a tiny private pension income is unlikely to have much of an impact on the tax you will pay (if any) if your only other source of income comes from the state pension.

Finally, I hope you can get some good, impartial advice to about what to do with the €33,000 to help supplement your existing income until find new employment.  It could possibly have an impact on future social welfare benefits if it is included as a means-testing exercise. Your local Citizens Advice Centre or credit union should be of assistance.

TOUGH INVESTMENT CHOICES FOR A WELL OFF WIDOW

IM writes from Dublin: I am 61, receive the widow’s pension, do some freelance work and hope to shortly obtain my half of my late husband’s pension, the other 50% of which is to go to our children. It is a considerable sum and why concern is how to invest it wisely fro one going income and sort of reserve fund. I still have a mortgage and monthly repayments of about €1,200 but after doing some research I was thinking of putting perhaps a third into a managed commercial property fund for income; tax free prize bonds for a small amount of income, a woodland scheme, perhaps a rental property in the UK, where some of my children live and some precious metal coins.

You have some big decisions to make, which can’t be easy after a bereavement, but I’m not sure that the different options you’ve mentioned would be considered very suitable, or diversified by any of the good, fee based advisers that I know. For one thing, your list is heavily weighted towards property and commodities (timber and precious metals) but there is no mention of well-priced equities or lower risk bonds. (You might want to consider paying off your family home before buying any more property.)

Meanwhile, the tax-free Prize Bonds are a form of gambling that pay no interest or dividends of any kind and are highly vulnerable to inflation. The number and value of Prize Savings has been slashed in recent years by NTMA and nationally produce an average ‘yield’ for holders of no more than 2%.

A good, independent, experienced and fee-based adviser will take the time to explain what a properly diversified and balanced portfolio might look like, relative to your needs, expectations and risk profile.  To get the best out of such a consultation, make sure you go prepared with a proper schedule of

all your income, assets, taxes and household expenditure. List all your existing financial contracts, investments, debt and give some thought to both your short, medium and long term expectations. Be sure to ask in advance about the advisers fee. 

And keep in mind that you are under no obligation to the adviser to act on any of his/her recommendations. Take your time. This is your money, and you are the one, not the adviser, who will have to live with how it is finally invested.