Creative Finance Newsletter JULY 2008

Non-conforming loans

Mainstream banks still set strict criteria about who they will lend to.

But there are many other options out there for people who don’t “fit the bill”.

It is estimated that as many as 10% of loan applicants are rejected by the mainstream banks due to their strict lending criteria and conservative approach.

This market is now well catered for by non-conforming lenders. These lenders cater for those people who fall outside of the prime lending criteria, including:

  • the self-employed

  • the elderly

  • new arrivals in Australia without a prior income or savings history

  • borrowers with prior credit problems, or

  • someone wanting to purchase an unusual property.

The range of mortgage products is broad, and includes most of the major features that you’d expect to find, including fixed or variable rates, line of credit, interest only, and additional repayments options.

Types of borrowers

Specialty lenders deal with two main categories of borrowers – those who are unable to supply up-to-date income records, and those who may have had a blemish in their prior credit history.

The main category are the self-employed, or contract & seasonal workers. These people have non-traditional income sources that can make it difficult to accurately assess the likely future income and therefore the potential serviceability of a home loan. Some of the banks are now bringing in criteria and products to service this market.

The smaller segment is the “credit impaired” borrowers. They may have a poor credit history due to a small number of utility defaults or have recently been discharged from bankruptcy. This area of lending is avoided by the major banks, and so is still the exclusive domain of specialty lenders.

Assessing the application

The assessment of an application by the non-conforming lenders is done on a case-by-case basis: the documentation required can also vary.

The lenders look at three issues:

  • capacity to repay

  • ability to repay, and

  • value of the security.

1. The capacity to repay is measured by proof of income. For self-employed borrowers, this can be difficult to provide detailed evidence for. In this case, the lenders may seek one or more of the following types of “low doc” documentation:

  • Declaration of income. This is like a one-page statutory declaration stating gross annual income, assets and liabilities, etc.

  • Trading statements. This shows the pattern of revenues and expenses over a period.

  • Accountant’s letter. This would confirm the company name and details.

  • Self-certification. Some lenders now allow prospective borrowers to simply state their income with no further verification necessary.

2. Ability to repay is checked by looking at the debt payment history of the individuals. This can be evidenced by statements from other mortgages, leases or borrowings.

3. Value of the security. The loans will normally be secured against the asset being financed, but could include other assets as well. The lender is seeking comfort that, if the loan repayments are not made, they can take possession of and sell the asset to pay back the loan.

Risk and return

Each application is assessed and rated individually. Therefore, unlike the home loan products of the major banks, the interest rates are set within a range depending on the risk profile of the applicant.

A common assumption is that these types of loans carry very high rates of interest. In fact this is not necessarily the case, as their typical rates start at a similar level to the major bank’s normal lending rates.

It all comes down to the assessment of the various risk factors. An applicant would only find themselves at the top end of the interest rate ranges if they presented a combination of risks – for example having little or no deposit, being self employed, and with prior credit impairments.

Summary

Non-conforming and specialised lending is becoming more common, especially for self-employed Australians, with the interest rates becoming more competitive.

This has provided more options for potential borrowers who have been rejected by one of the major banks.

Why bother with health insurance?

The Government has recently announced changes to the Medicare levy surcharge.

Some people are considering whether to cancel their private health insurance - should one of them be you?

In the last few years the Government has introduced initiatives designed to make private hospital insurance more attractive – the most significant is the Medicare levy surcharge.

Once you're over a certain income you need to pay an extra 1% Medicare surcharge on top of the 1.5% Medicare levy most people pay. You can avoid this by taking out hospital insurance.

Changes to the Medicare Levy Surcharge proposed (but not yet finalised) in the recent federal budget give tax relief to single people earning up to $100,000 and couples/families earning up to $150,000 as they no longer have to pay the surcharge.

The Australian Consumers’ Association has recently looked at the whole area of health insurance and raised the question – do you still need hospital insurance.

Do you need private insurance?

Every Australian is entitled to free treatment in a public hospital. Private health insurance can have the following advantages:

  • more freedom to choose your doctor

  • shorter waiting times for elective surgery

  • access to private hospitals

  • cover for extras/ancillary

Not all hospital costs are covered under hospital insurance. These are some of the things you may not get:

  • 100% cover in all hospitals.

  • Any excess or co-payment you agreed to pay for a discount on your premium.

  • The gap between the amount your doctor or the hospital charges and what’s covered by Medicare and your fund.

  • The cost of any pharmaceuticals not covered by the PBS.

How To Save

You can save on your insurance premium by buying a policy:

  • With an excess (the excess is the amount of money you have to pay for a hospital stay, before the private health fund starts paying).

  • Where you pay a co-payment if you go into hospital (you pay an agreed amount each time a service is provided — usually a set amount per day for a set number of days per stay).

  • That excludes treatment for some conditions. But remember, if you do end up needing treatment for the excluded conditions, you’ll only be covered as a public patient in a public hospital – like someone without private health insurance.

  • That only covers you as a private patient in a public hospital for some or all conditions.

If you decide to go for one of these policies, check the fine print carefully. For example, with some policies the excess is applied once a year; other policies could apply the excess up to five times.

Compare products

1. Choice of hospital

A key factor in choosing hospital insurance is the choice of private hospitals you can go to with a particular fund. It’s becoming common for funds to have an ‘agreement’ with certain hospitals.

If you have full cover and stay in these hospitals, 100% of your accommodation costs will be paid (apart from any excess or co-payment).

The cover you get in a “non-agreement” hospital depends on the fund. Some only pay a basic rate set by the government, while others pay a bit more. Either way you’re likely to incur extra costs during a stay in a non-agreement hospital.

2. Restrictions on treatments

It's also important to check any restrictions on treatments that apply to the hospital cover you're considering. A number of policies place limits on some treatments - which means the fund will only meet part of the costs - and may exclude cover for some treatments altogether.

Some commonly limited and excluded treatments are coronary bypass and major heart surgery; hip, knee and other joint replacements; obstetrics and birth related care; and rehabilitation.

3. Restrictions on extras

It's also important to check restrictions on extras that apply to the hospital cover you're considering. Extras health insurance covers non-hospital treatments that aren’t covered by Medicare — for example, dental treatment, physiotherapy, glasses and contact lenses, plus less common treatments such as acupuncture and podiatry. Some extras policies cover complementary treatments like massage.

Read the fine print

Before signing up with any fund, read its brochure and key features guide thoroughly. If there’s anything about your entitlements that you don’t completely understand, write to the insurer and get written answers to your questions before you join.

Here are a few of the more common questions to ask:

  • What waiting periods will apply?

  • Is the hospital you want to go to an agreement hospital with the fund?

  • Are any treatments excluded?

  • Are any treatments restricted to public hospitals?

  • Are any treatments initially limited to care as a private patient in a public hospital?

  • What excess/co-payment applies? Is there an annual maximum per membership? How does your excess or co-payment work?

  • Does the fund have an agreement with your doctor to cover the ‘gap’ between the actual charge and the Medicare Schedule fee?

Conclusion

With the proposed changes to the Medicare levy surcharge, more Australians will be questioning the value of private health insurance.

Whilst it is yet another call on the household budget, a good policy can still provide significant benefits to individuals.
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