How the new Government scheme will operate for first-time buyers

The Shared Equity Scheme in the new Affordable Housing Bil, put forward by housing minister Darragh O'Brien , is proving controversial. But how exactly would it work for potential homebuyers? The scheme has been approved by Government, but still has to clear the Oireachtas and be approved by the Central Bank. Presuming it does finally go ahead, this is what we know about how it will work for borrowers.

Who will qualify?

The scheme will be available mainly for first-time buyers of new homes. There will be some exceptions – for example people who are separated/divorced and have no stake in a home currently will also qualify.

What type of property can be involved?

It is for new-build houses and apartments. There will be a limit on the house price that qualifies. These are set on a banded basis. According to a draft list, which is subject to change, the limit in Dublin and Dun Laoghaire/Rathdown will be €450,000 for houses and €500,000 for apartments. For Cork City, Fingal, Galway City, South Dublin and Wicklow, the house price limit is €400,000, while an apartment price limit of €450,000 will apply in Cork City, Fingal and South Dublin,

There are five further suggested price limits: €350,000 for counties Cork and Galway(outside the city areas) Kildare, Limerick and Meath; €300,000 in Clare,Westmeath and Wexford; €275,000 in Carlow, Louth and Offaly; €250,000 in Kerry, Kilkenny, Laois, Roscommon and Waterford; and €225,000 in the lowest priced counties including Cavan, Donegal , Longford, Leitrim, Mayo, Monaghan, Sligo and Tipperary,

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What about income levels ?

The scheme will be available for homebuyers who are not able to get a mortgage to pay the full market price – effectively an income limit as Central Bank rules dictate that in most cases people can get a loan on 3.5 times their income. However they will have to earn enough to be able to find a property that is affordable when the Government shared equity stake is added on. Generally the State will take an equity stake of at most 20 per cent of the property. In some limited circumstances this can rise to 30 per cent.

So for example?

Well, say you are in Dublin with a household income of €90,000 and are looking at a property valued at €400,000. Your income would give you a maximum mortgage of €315,000. You should also be able to avail of the Help-to-Buy scheme, which offers a tax refund equivalent to 10 per cent of the purchase price, but subject to a €30,000 limit. Say you then have €10,000 in savings – to get to a 10 per cent deposit as required under Central Bank rules. This brings you to €355,000, still €45,000 shy.

Under the scheme the State could fund this shortfall – taking a stake of 11.25 per cent in your property. Note that the €30,000 help to buy scheme limit is due to revert to €20,000 at the end of this year, though presumably the higher limit could be extended.

While the sums will vary depending on exact circumstances, a €90,000 household covering the deposit with Help-to Buy and cash would face a limit of around €445,000.

What will the Central Bank make of this?

This will be important. The Central Bank sets prudential rules to make sure people don’t run up debts which are too large. So it will need to give the scheme the nod – despite reservations it has expressed – if it is to go ahead. This will involve it accepting that the State equity stake is not similar to an additional mortgage and is thus not counted towards existing loan to income or value rules. It will also have to be satisfied that the banks are not taking on undue additional exposure, as they are expected to fund part of this.

The banks are considering whether to provide equity to the scheme in addition to the €75 million initial allocation from the State – they are likely to, but may chip in a bit less than the State.

How will borrowers apply?

Assuming the main banks do sign up to the scheme, then the process is likely to involve the borrower making an application to their bank who will also deal with the shared equity element for those who qualify.There is much to be sorted in the banks’ involvement and a suggestion that the running of the scheme could have to be handed out to a third party. So there is a way to go here.

How does the State equity element work?

The State will generally take a stake of a maximum of 20 per cent. In certain limited cases – for example people returning to Ireland who do not qualify for the Help-to-Buy scheme – the maximum equity stake could rise to 30 per cent. A decision has not been taken yet on a minimum State equity stake – in the UK it is 5 per cent.

The borrower will pay no charge on this equity stake for the first five years. They will pay an annual charge of 1.75 per cent of the State equity from year six to 15, 2.15 per cent from year 16 to 29 and 2.85 per cent from year 30 onwards. A 1.75 per cent charge on a €50,000 equity stake would work out at €875. These are charges, not repayments on the equity stake.

Borrowers will be allowed to buy out the State stake, or part of it, at any stage, probably subject to certain rules.The value of the State stake will go up and down with house prices so detailed rules will be needed here.

If the borrower does not refinance and buy out the State stake, then the State equity is repayable when the house is sold. So for example, if you got a 15 per cent equity stake when you bought your home, then you would have to pay 15 per cent of the proceeds of a sale back to the Government.

The State equity stake will not be repayable when the mortgage term ends – because it is not a loan. While many borrowers will probably not get to this point with the State retaining a stake, there will have to be rules about what happens in the case of houses being inherited.

What can we learn from the UK scheme?

Around half the borrowers in the first year repaid their loans before they started to pay charges in year five. This was made easier by a generally rising housing market which allowed many households to refinance their mortgages and buy out the Government element early on. Or to trade up and still retain some equity themselves.

The initial version of the UK scheme in 2103 was open to purchasers at all income levels and of second-hand as well as new homes. It was found that fewer than four in ten actually required the scheme to be able to afford a mortgage – though in some cases they did go for bigger properties. The income controls now introduced on the Irish scheme are designed to try to ensure that only those who need the help will qualify.

The most contentious issue is the likely impact on house prices. This will in part depend on whether it leads to an increase in supply. Research commissioned by the UK Department of Housing estimated that it led to a 14 per cent increase in supply there. However research by the London School of Economics, which examined experience in parts of London and in a rural area on the English/Welsh Border found that prices increased by 6 per cent in London without a big supply response, while supply did rise in the rural locations.

The tight supply situation in Ireland has led bodies such as the ESRI and Central Bank to warn that prices could rise here. If this does happen, the argument will be how much was due to the scheme and how much to other factors. The supply response will be vital.

There is surprisingly little analysis in the UK on the impact on the overall housing market, though a National Audit Office report did point to the reliance of many builders on the scheme as an outlet. It found that houses bought via the scheme were just 1 per cent more expensive than those bought without it. This suggests it was not used as a device to hike prices, though there is surprisingly little analysis of the overall impact of the scheme on UK prices. The final conclusion of the audit office was that it would take time to judge the overall impact and cost.

How will this work out for Irish borrowers?

There are two questions here. What does it mean for those who avail of the scheme and what does it mean for the market in general?

For those who buy, a key issue will be whether house prices are in fact pushed up by the scheme. If they are, it will not give a lasting boost to affordability, unless the State keeps increasing price caps and its contribution. Once people have bought, it is of course in their interest to see prices going higher as this will make it easier to refinance or sell and pay off the State stake.

If house prices fall, however, then the State equity arrangement, along with the existing mortgage, could reduce flexibility for households, making it harder for them to trade up. The State equity is not an equivalent burden to the bank mortgage – and its value would go down if prices fell – but it is still a factor when planning to sell.

For the market in general, the short-term risk is of a hike in prices. The longer term issue is whether it leads to a rise in supply, as builders become more confident of an outlet and banks fell more content in extending finances on less restrictive terms.