Housing’s fast track is getting faster
By Scott Francis
May 24, 2010
PORTFOLIO POINT: Easing restrictions on the first-home saver’s account makes it a flexible wealth-creation strategy.
Changes to the design of the first-home savers accounts will turn them into one of the best wealth-creation strategies available and should be considered by intending buyers – and concerned parents and grandparents wanting to help them. The new rules, announced in the budget, address criticisms of the accounts and make them infinitely more flexible, the fast track to home ownership.
Introduced in 2008, the accounts offered savers 17¢ from the government for every dollar they contributed into an approved bank account up to $5000 a year – limiting the government’s contribution to $850 per annum.
This seemed to be a much healthier path to home ownership than rushing in to take advantage of a first-home owner’s grant, getting loan for 103% of the value of the property with no deposit, and hoping for the best.
But the accounts had a downside. The balance was capped at $75,000 and could not be accessed until after four years. If the account holder bought in the meantime, the savings were transferred to superannuation and out of reach until retirement – not ideal when every dollar counts for first-home buyers.
The take-up of the first-home saver accounts has been low, partly because the government doubled the first-home owner grant of $7000 as part of its response to the global financial crisis, and partly because of the inflexibility of the four-year qualifying period.
The proposed changes retain the four-year qualifying period but if a house is bought in the meantime, at the end of the four years the money can be paid into your mortgage.
The advantage of this is significant. Now, savers can start the account and buy a house at any time and continue to receive the benefits of the scheme, and give their mortgage a boost at the end of the qualifying period.
Of course, it should be mentioned that these changes are yet to become law, and we will have to check on the final details when they do.
The basics of these accounts are:
There is nothing wrong with the accounts that are available currently. Many are paying interest of 5% or more; Members Equity pays interest of 6.25%.
Make four years become two
The biggest hurdle to many people using a first-home savers account has been the problem of having to make contributions of at least $1000 in four financial years.
Perhaps this is not as onerous as it seems, especially at this time of year.
It would be possible to make contributions in June and again in July this year to mean that the first two contributions are made within two months of opening the account. Further contributions in July 2011 and July 2012 bring up the four years of contributions. The timing would be June 2010, July 2010, July 2011 and July 2012.
The proposed increased flexibility means that once the account is opened, effectively a house can be bought at any time in the future and the benefits of the first-home saver account enjoyed.
It will still make sense to keep making contributions to the account after the purchase, because the account will still attract the 17% government contribution and can be paid to the mortgage once four years of $1000 contributions have been received.
This is more effective than paying extra to the mortgage. An extra $1000 paid to a mortgage at 8% returns an effective $320 over four years. A $1000 contribution to a first-home saver account over four years will receive an extra $170 from the government, and $250 in earnings after tax. This is an effective return of $420.
A more aggressive use of the strategy might see joint home owners each have accounts that they build to the $75,000 limit, that they then tip both into their mortgage. This would take advantage of the greater return from investing in a first-home saver account, as compared to making additional mortgage repayments.
Indeed, the most aggressive use of the strategy might be for a couple to set up two first-home savers accounts, buy a home, and use a line of credit to withdraw from the mortgage if the house increases in value, using this money make contributions to the home savers accounts – although we should note that the legislation might prohibit this type of activity.
Another benefit of the flexibility is that if you were to buy a home in the first couple of years of the account, you could also receive the $7000 first-home owner’s grant before it is (ultimately) phased out. People often worry about losing out on this scheme – this way they can lock in the benefits of both schemes.
Helping younger generations
For parents, grandparents and concerned adults generally, the first-home saver accounts present a way to assist the younger generation into home ownership. Given the concern that many people have about their children and grandchildren being able to afford a house, opening a first-home saver account in their name is a way to assist. By making contributions of $1000 a year into the accounts they will provide:
- They are available to people aged 18 to 65 who have not purchased their first home.
- When a contribution of up to $5000 in any year is made, the government will add a further 17%.
- Contributions of at least $1000 need to be received in at least four financial years before the money can be released.
- There is a cap of $75,000 on any first-home saver account.
- The investment earnings of the first-home savers scheme are taxed at the concessional rate of 15%.
- If money is not used to purchase a home it is contributed to superannuation.
The bottom line
Using first-home saver accounts just became a much better strategy. The flexibility to buy a house at any stage once the account is opened makes in an almost compulsory strategy now – the 17% government contributions make it more attractive than paying extra to a mortgage, and you can add the money from your first-home saver account to your mortgage.
There are many personal finance strategies that are so effective that they should be compulsory including:
- Additional contributions of $170 from the government every year.
- Investment earnings on the account only taxed at 15%.
- A simple structure with tax calculated by the institution providing the account.
- A flexible structure to be used for paying down a mortgage at some time in the future.
It looks like first home saver accounts can now be added to this list.
- Paying off high-interest debt.
- Saving regularly into growth assets.
- Making the government co-contribution to superannuation, if eligible.
- Using a transition to retirement income stream after the age of 60.
Scott Francis' articles in the Eureka Report