Structuring your mortgage is, in my opinion, the most important decision with regards to property. Not “what sort of property are we going to buy?”, “where are we going to buy?”, “I really like wooden floorboards, picture rails and open plan kitchens…”. None of that matters until you work out how much you can borrow and how you are going to make that mortgage work for you.

Unless you can pay in cash, all of us mere mortals will require a loan to buy property. And structuring your mortgage does not just apply to when you first buy a property. When your mortgage matures you should revisit this process again because chances are, your circumstances are very different from when you bought 3, 5, or 20 years before.

There are a few key questions you need to ask yourself –

1. How much cash and/or liquid assets do I currently have?
2. What mortgage payments can I comfortably afford?
3. What is my risk appetite regarding fixed versus variable mortgages?
4. Will this property be a home or an investment, now and in the future?

I will delve into each of these questions in detail in following posts but in a nutshell what we are trying to establish is how much can you afford to borrow and therefore what value property can you buy, in addition to how you borrow that money. And it all comes down to thorough analysis, planning and understanding your risk appetite.

Does this all sound like gobbledy gook? I promise if you keep reading, all of the mysteries of mortgages will be explained plainly and simply and you’ll be quoting the latest variable interest rates in no time!

So, back to risk. Risk is all about how much you like living life dangerously, and in this case with regards to debt. Wild! If you are risk averse you buy a modest family home that does not stretch you financially and you work hard to pay down the mortgage as soon as you can so that your debt is minimised. An admirable and respected approach that probably a few more people should take. If you are a risk seeker you may stretch yourself to your financial limit to buy multiple investment properties with a lot of debt in the hope you can make a quick buck and sell them on with a good profit in a short period of time. Also perfectly acceptable, provided you have done thorough research.

Which leads me onto the Global Financial Crisis (GFC) – which hit the world in late 2007 with its effects still reverberating today. Economies have experienced many an upturn and downturn, with some saying cycles tend to last approximately 10 years, but due to business’ increasingly borderless and global nature, the recent downturn has had the furthest reaching effects worldwide and on a scale not seen before.

So how does the GFC affect us normal people with mortgages, jobs and the daily grind? Breaking it down in simple terms, it’s all about not being able to pay your mortgage when the going gets tough.

During the early 2000’s property values were increasing steadily year on year. Some would say owning property was a license to print money. Financial lenders cottoned onto this trend and started offering bigger and bigger mortgages and at Loan-to-Value ratios (LVRs) of up to 110%. An LVR of 110% is where you don’t need a deposit or any further savings to pay for initial costs such as solicitor’s fees, taxes and duties. So for a house worth $500,000 you could get a loan for $550,000 with absolutely no savings to your name. Sounds crazy, doesn’t it?

The financial services industry then did some crazy stuff on a large scale with these fairly risky and sometimes not very secure mortgages by trying to sell them on as A grade premium on the basis that property prices would just keep going up. After a while people started to realise these mortgages weren’t quite what they seemed and the house of cards came tumbling down.

Over time property values started plateauing and then decreasing and a combination of two things happened: (1) the economy was negatively affected by property values declining and people started losing their jobs and therefore were unable to pay their mortgages, and (2) the value of a property no longer covered the value of the mortgage and financial lenders started pulling back on lending, which made getting a mortgage more difficult and so less people were buying these houses that the people who lost their jobs now couldn’t pay for. What a snowball effect!

The lessons to be learnt from this latest financial crisis are that property values do not always increase, and that we should not borrow more than we can afford, regardless of what the bank is willing to lend. And importantly that this is one of many financial crises that have occurred and will occur again. Property, and the economy in general, is cyclical – there are always periods of incline followed by periods of decline. So let’s buy that property, be it grand or modest, a family home or a fixer-upper, and let’s stretch ourselves only to the point where if the world went into crisis again, we wont be caught with our proverbial pants down.

Stay tuned for question number 1. How much cash and/or liquid assets do I currently have?