The government is trying to make house prices affordable. Prices are affected by supply and demand. What the government is trying to do is decrease demand. It has instructed its APRA, the Australian Prudential Regulation Authority, to tell the banks to make it hard for people to borrow money from the banks and so there will be less people able to borrow to buy property and thus the price will fall.

Like all intervention in a free market this strategy will fail. What happens is that borrowers will approach non-bank fringe lenders. I came across such a sad case recently.

This couple, in order to prop up their business needed extra finance. They ran up their 4 credit cards to the maximum limit. This costs over 20% interest per year but at least the repayments are at a minimum.

Then they went to another lender. They were very obliging and gave them the money extremely quickly. The problem was that it had to be repaid weekly over the next year. The repayments were thus extremely large. When I calculated the interest it turned out to be over 30% per annum.

They also own a home so they went to another lender to get more money. Again very quick and efficient service and the loan was interest free! The lender valued the home at 1.2 mil and then lent them 500K. Instead of paying interest they took 62% ownership leaving the couple with an ownership of 38%.

The lender immediately stated that the house was worth $1.7 m. This gives the lender an immediate gain of $552K. However the house has now gone up to $2m but the couple only get $760K of this and the lender’s portion goes from $500K to $1.24m in two years

One way of getting out of credit card debt is to restructure your home loan to pay off the cards, make the home loan interest only or make the loan repayable over 30 years. (They’re in their mid-seventies. This did not worry the banks previously) This reduces both the interest rate and the repayments.

So what was suggested? A son was taking over the business so one idea is that he refinances his home. A customer was two months outside their trading terms so some polite but persistent telephone calls are required. Part of their business is cash (credit card and PayPal) rather than credit and with a higher profit margin, so it was suggested that they put maximum effort into growing that part of the business. The alternative is to sell their home and buy a bed sitter.

The lesson of this fable is never entering into a financial transaction without getting proper financial advice.

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