THE TEMASEK REVIEW

By Eugene Yeo, Consultant Editor

[This is an addenum to Part 2 of the Trilogy: Debunking official myths about HDB flats: HDB flats are affordable to most Singaporeans]

In a letter published on the Straits Times Forum on 31 August 2009, HDB’s deputy director Mr Ignatius Lourdesamy wrote that HDB flats remain affordable to eligible first-time households as they use between 21 to 25 per cent of their monthly income to service their loans on new and resale HDB flats which are well below the international affordability benchmark of 30 per cent. (read letter here)

Though he did not state it explicitly, he is likely to be referring to the average shelter-cost-to-income ratio (STIR) or the proportion of total before-tax household income spent on shelter. The shelter-cost-to-income ratio is calculated for each household individually by dividing its total annual shelter cost by its total annual income. A STIR higher than 30 per cent is conventionally taken as indicating a serious housing affordability.

Besides the STIR, there are other benchmarks such as the price-to-income ratio, affordability index and Median Multiple (used by the World Bank and UN) used to assess housing affordability. It is not known why HDB uses STIR over the others.

Being an international index which does not take into considerations the unique social and economic circumstances of individual countries, HDB should use STIR as a guideline in determining the prices of HDB flats instead of using its benchmark of 30 percent as an absolute figure across the board.

The STIR has five major drawbacks which I shall elucidate more on below.

1. Lower threshold for public housing

The STIR is used to determine housing affordability in many developed countries such as United States, Canada and United Kingdom where the properties are largely private and freehold.

Is it fair and reasonable to use the benchmark of 30 percent to assess housing affordability for public and leasehold HDB flats?

Public housing with a limited tenure of only 99 years should be cheaper than private housing with unlimited tenure and hence it makes sense to lower the benchmark to below 30 per for HDB flats, e.g. 20 per cent which will make most of the new and resale flats affordable to Singaporeans.

 

2. STIR does not take into account income fluctuations over 30-year period

HDB’s standard answer that HDB flats are affordable because Singapore households use less than 30 per cent of their annual income to service the mortage loan is too simplistic and one-dimensional.

The computation is based entirely on the present annual income of the household and does not take into account possible fluctuations over the 30-year loan period during which anything can happen to cause disruptions to the household income.

Retrenchments, unemployments, change in jobs and unexpected deaths will greatly reduce the annual income level thereby rendering the originally affordable flats unaffordable as the 30 per cent benchmark is breached.

For households who cannot afford the HDB flats years later, will HDB provide them with additional subsidies to top up the difference or are they allowed to downgrade to a smaller-size flat?

 

3. Inflation over time

The STIR is calculated based on the median annual income which is $67,200 for an employed Singapore household living in a 4-room HDB flat in 2008.

The purchasing power of $67,200 will decrease as years go by due to inflation. Unless yearly wage increases outstrip the average annual inflation of 4 – 6 per cent (it reached 6.7% last year), its value will depreciate with time.

As total annual shelter is largely fixed (if we take the banks’ interest rates out of the equation), this will lead to decreasing housing affordability with each passing year.

Hence, the STIR benchmark of 30 per cent can only be used to assess initial affordability and not general affordability because the percentage will drop like a car’s value due to inflation.

 

4. Interest rates and taxes

The STIR is a crude figure which does not take into account the banks’ interest rates and taxes which will change over time.

Taxes include income tax, property tax, GSTs and other indirect form of taxation. As property prices go up, the property tax will invariably increase. However, this is not taken into consideration by the STIR which uses pre-tax annual median income in its computation.

The banks’ interest rate will add to the annual shelter cost. Though Singapore’s SIBOR rates are at a historic low now, there is no guarantee that they will not go up. Just 3 years ago, the average interest rate is between 2.5 and 3 per cent. Even a one per cent increase in the interest rate will dramatically jack up the annual shelter cost.

Again, STIR does not take int account the yearly changes in interest rates and hence the annual shelter cost. A HDB flat may be affordable at present interest rates, but may not be so in the future in the event of a rate increase.

 

5. Social and economic circumstances of Singapore

The STIR benchmark of 30 per cent is a very general indicator of housing affordability used internationally. One of its greatest drawback is that it does not take into account the different social and economic cifrcumstances unique to each country. It can be used at most as a guideline to be adapted and modified according to each country’s needs.

Housing affordability is not a stand-alone figure and should be linked to its wider social implications and possible impact on disposable income, domestic consumption power, retirement savings and standard of living.

Using STIR as a benchmark does not tell us if the buyer purchasing the HDB flat at current prices will have enough money left in his/her CPF accounts at the end of the thirty year. Neither does it reveal the number of hours he/she need to work a week in order to finance the loan.

The STIR is used widely in Canada to assess housing affordability in different provinces and cities. Canadians do not have to worry about retirement as their medical expenses will be paid for by the welfare state. Hence, it does not matter as much if they will have enough savings for their retirement needs after financing the loans.

The case is different in Singapore. Most Singaporeans use their CPF to finance the HDB loans. As there is no social safety net in Singapore, the CPF become an important source of savings to meet one’s retirement needs which is its original objective in the first place.

Given that it is a known fact now that Singaporeans have inadequate funds in their CPF for their retirement, it will be foolhardy to deplete them in order to pay for the mortage loans of over-priced HDB flats which appears to be “affordable” initially using HDB’s STIR benchmark of 30 per cent.

 

Conclusion

The STIR of 30 per cent is not a perfect benchmark to determine housing affordability. At most it tells us whether a HDB flat is affordable initially to the householder and its affordability 30 years down the road.

HDB should adopt STIR only as a guide and not as an absolute figure to determine the affordability of new and resale HDB flats.

More research needs to be conducted to study the impact on present prices of HDB flats on the retirement savings/CPF, domestic consumption power and standard of living of Singaporeans.

High HDB flat prices force the average Singapore worker to save more, spend less and work longer hours to service the mortage loan leading indirectly to a moribund domestic economy, low birth rates and high levels of stress which have a detrimental impact on one’s health.

Public housing is a necessity in life. The elected government of the day is expected to provide subsidized housing for every Singapore citizen and there’s nothing to crow about by just doing their job. Not only must HDB flats be affordable, they should be “easily” affordable as well. The government should strive to ensure that all Singaporeans will be able to own their homes and yet have adequate savings for their retirement at the same time.

 

Other articles in the series:

>> HDB flats will be “severely unaffordable using the Median Multiple as a benchmark for housing affordability”

>> Part 1: Singaporeans own their HDB flats

>> Part 2: HDB flats are affordable to most Singaporeans

 

Related articles:

>> HDB uses unknown “benchmark” to assess affordability of flats

>> High cost of HDB flats a key reason for low birth rates by Jeremy Koh and Eugene Yeo

>> Mass market buyers now inflating property prices by Jeremy Koh

>> Record home sales: a boom or bomb in the making? by Jeremy Koh and Eugene Yeo

 

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