HOUSING THE BUILDING BLOCK FOR WEALTH CREATION

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HOME OWNERSHIP, SOCIAL PROTECTION AND SOCIAL MOBILITY In Benefits Barometer 2016 we spoke about the challenge of meeting the objectives of social protection while still achieving those of social mobility. These objectives are often viewed as competing because of the limited funds available to meet them. This year we consider whether this view is always true. The impact of home ownership on retirement and saving Treasury s December 2004 paper on retirement reform stated that The Mouton Report suggested the incorporation of housing fi nance into retirement funds because the single most important infl uence on income adequacy in retirement is ownership of a home 1. According to research by Statistics South Africa, South Africans spend approximately one-third of their income on housing. While this fi gure includes water, electricity, gas and other fuels, the bulk of this amount goes towards bond repayments or rentals. It therefore stands to reason that a retiree who owns their own home and no longer has any bond repayments will require considerably less income after retirement than one who continues to rent. As importantly, paying off a home is in effect a contribution to personal savings. It is well researched that South Africans are poor savers. Gross savings as a percentage of gross domestic product (GDP) in South Africa was reported at 15.4% in 2015, according to the World Bank collection of development indicators 2. Compare this to the Chinese, who save over 50% of their GDP, Indians 30% and Australians about 25% 3. Home ownership encourages people to save. Because they have to pay off a home loan, they save more than they otherwise would. Research finds that people save more if they do so automatically rather than having to choose to set something aside every month. The ideal position is therefore one in which a person is able to acquire a home prior to retirement while still saving suffi ciently to meet the cost of living and the increased costs of healthcare after retirement. Home ownership, it can be argued, plays an important role in both social mobility and social protection as it allows for the acquisition of an important asset while still providing for an important social benefi t. Why, then, does this not enjoy priority over the funding of other objectives? Home ownership, it can be argued, plays an important role in both social mobility and social protection as it allows for the acquisition of an important asset while still providing for an important social benefit. 224 1 National Treasury, Republic of South Africa. 2004. Retirement fund reform: a discussion paper. 2 World Bank Data. Gross domestic savings (%) of GDP. World Bank national accounts data, and OECD National Accounts data fi les. 3 Erasmus, S. 2015. South Africans among the world s worst savers. Agility, July 2015.

The South African housing landscape The General Household Survey 2016, conducted by Statistics South Africa, provides insight into the housing challenge. According to this survey, the majority of South Africans live in formal dwellings, as seen in Figure 1. FORMAL 79.3% Figure 1: Percentage of households living in formal, informal and traditional dwellings INFORMAL 13.9% TRADITIONAL 5.9% Further reading of the General Household Survey reveals the breakdown of the tenure (occupancy) of households in formal dwellings. Approximately 63% of households living in formal dwellings fully or partially own the homes they occupy, as shown in Figure 2. Figure 2: Tenure of households in formal dwellings 63% FULLY OWNED 13.5% 23.4% OTHER RENTING 225

Making the right housing decision While owning one s home eases the requirement for retirement savings (and, we will show later, could be an asset for supplementing one s retirement income), this is not always achievable or easily achievable for many South Africans. For most young people, the question is whether to rent, buy or build. Each comes with its own challenges and pitfalls, which we don t cover here. That said, acquiring a home is one of the biggest financial decisions a person can make and therefore deserves our attention. In addition to these considerations are decisions about when to move from renting to buying, or when to upscale or downscale, which further complicates matters. Keeping up with loan repayments For many, the process of becoming a home owner happens over a number of years and requires commitment and discipline. Households often need to address their creditworthiness issues or save for a deposit for a loan. For many, the only feasible route to home ownership is buying a stand and building a house over time using savings and small loans, or buying a small house and upgrading it over time. There is very little information on these processes and the options currently available. Further, while there are a number of private entities that offer support to address indebtedness and creditworthiness issues, they do not offer this within a context of enabling home ownership. Becoming a home owner is only half of the problem. Staying a home owner is equally diffi cult. Many home owners fi nd it diffi cult to make their monthly repayments and manage the costs of maintaining a home, especially in challenging economic times. Home owners need to be informed on how to responsibly manage home ownership, and what their options are should they be retrenched or run into economic diffi culties. While renting, buying and building all have a role to play in solving the South African housing problem, the current financial advisory framework does not cover any of these holistically. An alternative advisory solution is required if the problem is to be resolved adequately. Funding options It would be easy to argue that the solution to the problem of home ownership would be for households to adjust their budgets to make more funds available for purchasing a house. While this may be so, affordability is but one of the criteria that affect the ability of a person to acquire fi nancing for housing. Pension-backed lending In line with the proposals of the Mouton Report 4, retirement funds can provide a source of funding for housing. Very few funds still provide loans directly to members, with most having opted to provide a facility that allows members to use a portion of their fund credits as backing for loans granted by commercial banks. The advantages of these loans include: lower interest rates and lower transactional fees the absence of a bond with its associated costs and complications greater fl exibility in the range of housing transactions to which these loans can be applied These advantages make pension-backed lending an attractive source of funding for housing. That said, it s also important to note the limitations of pension-backed housing loans: The single biggest drawback of pension-backed lending is that it draws on an existing fund credit to determine the loan amount. This means that for members who are young or do not have substantial savings, the loan amount will be small and most likely insufficient to purchase a home. Pension-backed loans are subject to the lending criteria set out under the National Credit Act. This means they do not help individuals who cannot qualify for ordinary housing loans as a result of issues such as affordability and creditworthiness. Whenever a member leaves the fund, the bank that granted the loan has the right to call up the loan against the surety provided by the fund credit. 226 4 Mouton Committee. 1992. Report of the Committee of Investigation into a retirement provision system for South Africa.

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In practice, this is almost always done, resulting in retirement savings being depleted as people change jobs. Treasury has bemoaned leakage on withdrawal in various discussion papers and it is evident that the practice of calling up pension-backed housing loans by banks whenever someone changes jobs does not help the situation. Home loans (mortgage loans) The ordinary method for securing funding for housing is through a home loan a loan backed by a mortgage bond. Commercial banks providing this lending have developed their own rules and guidelines for assessing potential borrowers to ensure the risk they take on is secure. Unlike pension-backed loans, bank loans are secured against the properties that are purchased with these loans. Banks are selective about the areas in which they lend and set relatively high standards for the housing to be funded by home loans. This is because their ability to resell the property in the event of default is the real security for the loan. Addressing the problem of accessing home ownership Changing mindsets access to critical information There is a need for improved information and support to potential home owners on the importance of home ownership as part of a long-term retirement plan. Financial advisers and institutions should be encouraged to offer this as part of the service they provide their clients. Further, there is a need for advice to potential home owners as they move through the process of deciding to acquire a house, become financially enabled to do so and then make the decision of where and how they will become home owners. Increasing access to appropriate financial products 1. Home loans The inability to obtain financing may be for various reasons. In many instances, the assistance of a debt counsellor is required to address indebtedness and creditworthiness issues. (A debt solution will not be discussed here.) However, for many people obtaining financing may be a shorter-term solution than debt counselling. These people may require guidance in reorganising their budgets, addressing outstanding debts or understanding their housing needs. The financial planning industry is remunerated predominantly through the purchase of financial products with very few individuals being able to afford the services of a wealth planner. There is little doubt that people who find themselves unable to obtain loan financing will not have a wealth planner to assist them with this. An alternative in the financial planning industry is therefore required to assist in this process. 2. Pension-backed lending The loans available under this funding model depend on the accumulated fund credit of the member at the time of applying for the loan. The amount of funds that can be accessed is limited by the amount of savings accumulated, which makes this type of funding more appropriate for home owners who want to build their homes incrementally over time or use it as a deposit towards a home loan. This form of finance is also appropriate if the home is being purchased on traditional authority land where registered title is not available. Young members are not able to use this facility effectively. For example, a member earning R10 000 a month and contributing at 15% towards retirement funding will have saved approximately R96 000, in today s terms, after five years and R212 000 after 10 years. Saving more in one s retirement fund to bolster one s fund credit with the aim of obtaining a larger loan is not a likely solution, as people wanting to buy a home still need to fund a housing solution in the interim. This is usually in the form of rental, so further retirement savings may not be a solution. For people with insufficient pension savings to secure a pension-backed loan large enough to finance the home of their choice, the option of mortgage-backed lending remains. This does not mean pension-backed loans are not an option for these members. In fact, irrespective of whether pension-backed lending provides a loan sufficient to cover the full cost of securing one s home, it does have a role to play in every retirement fund member s home purchase. Working with the right consultant and provider can ensure the optimal financing solution that does not compromise one s retirement savings. 228

Using your home to fund your retirement As highlighted earlier, owning one s own home not only significantly reduces one s income requirement after retirement but may also provide a source of income after retirement. Reverse mortgages Reverse mortgages have been used in the US, Australia and the UK for many years and are also available in South Africa. A reverse mortgage allows you to borrow money against the value of your home. The loan required must be paid back on death or if the property is sold by the owner before death. Reverse mortgages allow retired home owners to access the accumulated value in their property without moving. Depending on the nature of the product, this could enable them to supplement their retirement income throughout their retirement or for a defined period of time. However, as the loan against the value of property attracts interest, the amount to be paid by the estate of the borrower may exceed the value of the property if the property loses value over the period of the loan. Research in the US has revealed that reverse mortgage take-up is also affected by the bequest motive of consumers, which is one of the reasons limiting the take-up in that market. Home owners who would like to leave their homes to their children feel reluctant to borrow against their homes as this means the banks could ultimately own the homes if these loans aren t paid back before they pass away. In South Africa, the bequest motive has been suggested as one of the reasons for the high take-up of living annuities as opposed to life annuities. This may mitigate against the takeup of reverse mortgages in the South African market, a situation that might be overcome if the purchase of a home were made easier. Renting out a portion of the house Retirees could rent out a portion of the house and thereby earn rental income from their homes. There are different types of accommodation that can be provided, including renting out a separate flatlet on the property, separating a part of the house for rent or renting out a room in the house. Each of these has different advantages and disadvantages in terms of a retiree s personal life and privacy. Owning one s own home not only significantly reduces one s income requirement after retirement but may also provide a source of income after retirement. 229

Addressing the housing advice gap Unfortunately, the current housing environment operates on the basis that advisers or agents are remunerated for securing a successful transaction. If someone seeking to acquire a house does not want the specific option being offered or does not financially qualify for that option, the agent or adviser ceases to engage with them. The reality is that people who can t afford to purchase homes can t turn to estate agents or banks for guidance on a housing solution. In fact, most financial advisers are likely to be inadequately equipped to provide advice on housing solutions at all. With remuneration for financial advisers still based largely on product placement, which excludes rentals or housing purchases, housing is not likely to enjoy the same attention as other financial products. Where do South Africans turn to for assistance if financial advisers are inadequately equipped? Currently, there are only a few organisations providing such advice. They usually work with employers who wish to provide housing support to their employees. Often people will seek the opinions of friends and family, or do research on the Internet. Yet, to make this important decision, a number of factors have to be considered: Housing needs: the number of people in the family, where the family members work, access to schools, cost of transport, quality of the neighbourhood Affordability: the amount of residual income (after normal living expenses and current debt servicing) available to repay a housing loan Creditworthiness: the fi nancial health of the household, generally measured by how well they manage their monthly fi nances (they have suffi cient income to cover their expenses and debt) and whether they have credit records in good standing in the credit bureau (no negative credit records such as arrears or judgments) All of these elements need to be addressed for individuals to secure home ownership. Having access to an advice framework that helps people weigh up all these factors when coming to a decision would greatly assist in making the right choices at different stages of our lives. 230