How can people still afford Auckland house prices?

COMMENT: Auckland property prices have risen 21% in the 12 months to July 2021, which begs the question, how can buyers still afford to buy houses in New Zealand’s largest city, when the median property value is to $1.127m? Why haven’t almost all buyers exited the market?

In general, most buyers tend to begin looking - somewhat optimistically sometimes - at the top end of what they can afford. It is natural for buyers to want to be in the nicest home they can afford and the banks have several checks in place to make sure that the maximum lending amount they offer isn’t the absolute maximum that buyers can afford. The most obvious example of this is the servicing rate. Banks calculate the mortgage affordability at around 6%-6.5% per annum, much higher than the 2.55% currently on offer.

Buyers who are maxed out on their pre-approved lending and haven’t successfully won an auction or tender, can’t follow the market up in price as it increases. Instead, we find that most buyers adjust their expectations. It may be they only purchase a three-bedroom house instead of a four-bedroom or their ideal section size may go from 500sqm to 400sqm. Fortunately, there are a number of concessions that buyers can make from the state of the landscaping to the quality of kitchens and bathrooms.

But with the price of a typical Auckland house jumping around $200,000 in the last 12 months, how much more income would you need to find to continue to purchase the same sort of house?

In real terms, $200,000 at 2.55% over 30 years means an additional payment of $367 per fortnight or around $9,500 per annum. Assuming you’re paying the full tax rate, it means a couple would need to find an additional $15,000 of pre-tax income to pay an additional $200,000 mortgage.

But as we mentioned earlier, the bank assesses your ability to pay the mortgage at a much higher 6%-6.5%. Using the same formula as above, it turns out that your household will need to earn a total of around $22,500 pre-tax income to increase your approval at the bank by $200,000. A side note here, this calculation will change if the Reserve Bank brings in debt-to-income ratios.

In other words, if a couple can find an additional $22,500 in household income, they can purchase the same Auckland house they looked at last year. For some, this is achievable, which starts to give us a clue of why the market hasn’t completely died. Maybe both couples find a new role that pays them an extra $11,000 each. Or maybe only one person can find a higher paying job and the couple only have to make a few compromises on their purchase. As always, lowering some monthly expenses and paying off high-interest debt can also help towards this.

The point is, $200,000 is a lot for properties to increase by in a year but for those wondering why the market hasn’t ground to a halt, the additional income required is still within reach of some, but sadly not all, buyers. I haven’t addressed the additional deposit requirements but you can see from these numbers why the Reserve Bank is keenly looking at both loan to value ratios and debt to income ratios to address the amount of additional deposit and income required as houses get more expensive.

- Rupert Gough is the founder and CEO of Mortgage Lab and author of The Successful First Home Buyer.