RDP 2005-03: Property Owners in Australia: A Snapshot 2. Factors Influencing Property Ownership and Gearing

In this section, we highlight theoretical considerations that underlie models of households' property ownership decisions, and their empirical importance in previous studies. This also provides us with a basis for the choice of our own empirical model in Section 3.

Households decide to purchase the home they live in for a number of reasons. One important reason is to provide a stream of housing services, for which they would otherwise have to pay rent. Owner-occupied housing may also be used as a place for investing household savings to provide an investment return on savings through capital gains. This might be especially important if government policy provides incentives for home ownership through the tax system. Moreover, there are lifestyle aspects to the choice of owner-occupation over renting, with the former potentially providing greater stability for the household and, depending on the availability of affordable rental properties, more choice over the area in which the household can live. Some households may also value the greater freedom to decide on physical aspects of their home associated with owning the home.

Similarly, properties that are not owner-occupied can be owned for a variety of reasons. Some households may consider it mainly as an investment that provides an ongoing source of income by letting it to others. Other households may own a property primarily as a holiday home or secondary residence, that is for lifestyle reasons, but may also decide to let it during part of the year. In both cases capital gains on their property may be part of the expected return on their investment. As we cannot distinguish which of these motives is the driver for an investment decision – and often all of them will play some role – we include all residential property that is not owner-occupied in the definition of investment property used here. Overall, however, the emphasis on ownership motives for investment property may differ substantially from those for owner-occupied property and thus warrant analysing the two types of property separately.^[1]

Since property purchases are lumpy, households often incur debt in order to finance the purchase. This means that factors affecting the ability to repay a mortgage are also important for the decision whether and when to buy a property. Income is likely to be the most important factor in determining whether a household can afford to repay a mortgage of a certain size. Of course, households' current choices for property gearing may also reflect the lagged effects of past household choices (Painter 2000), based on past income rather than current income. However, to the extent that current variables, such as income or education, proxy for past values, we can control for such effects.

The life cycle of a household is an important factor affecting the relative importance of the different motives for property ownership. Affordability and household composition have also been identified in the literature as important factors. We will discuss each of these three in turn.

2.1 Life Cycle

Life-cycle considerations represent an important link between saving, income and consumption. The life-cycle hypothesis posits that households will smooth their consumption over time, implying that they will save part of their income and accumulate assets during their working lives and draw down on these assets once entering retirement. It would be expected that the level of saving and asset accumulation would peak late in their working life in line with peak income. In principle, this should also be true for the ownership of property assets.

Thus, on the basis of the life cycle, we would expect that the ownership of owner-occupied housing and other residential property would increase across households of working age and start to decline once households enter retirement. This is confirmed in Figure 1 which shows the proportion of property owners in each age group, based on the 2002 HILDA data set used in this paper.^[2] In fact, age seems to be a standard explanatory variable included in models of home ownership (see, for example, Henderson and Ioannides 1986, Gyourko and Linneman 1996 or King and Leape 1998).

Because property is lumpy, its ownership generally requires households to acquire debt to enable its purchase. Thus, while purchases of property may occur in the early stages of the working life of households, these households will generally take on debt which will thereafter be repaid up until the latter stages of their working life. For housing debt, both the propensity to hold debt and the gearing ratio on property would be expected to fall for households in the prime working-age groups and in retirement.^[3]

2.2 Affordability

An important consideration for property ownership is the ability to make financial commitments towards purchasing property and to meet any repayment obligations if debt is taken out to acquire the property. This encompasses earning capacity, reflected in current income, educational attainment and labour force status, as well as wealth held in sources other than property, particularly in liquid assets.^[4] Variables such as these have been included in many previous tenure choice studies. As noted by Yates (2000), income, like age, is standard in the specification of these models. Data limitations have meant fewer studies have examined the role of wealth in real estate portfolio decisions, though it forms a central part of some studies (for example, Curcuru 2003).

We expect that those with higher incomes and wealth would have a higher propensity for property ownership and would also tend to purchase higher valued property. This is in part due to the requirements for downpayment and ongoing servicing of mortgages, as identified in the study of Canada by Jones (1989) and of the US by Linneman and Wachter (1989), among others. Both these papers note that the income and wealth required to obtain mortgages have a significant influence on the attainment of home ownership, with Jones (1989) noting that the wealth required for downpayment appears to be more important than income in the transition from renting to home ownership. The impact of borrowing constraints was also examined for Australia by Bourassa (1995a), who similarly found that the wealth constraint is binding for most young renter households.

Not only would we expect higher-income households to be more likely to own property, but we would also expect them to be more likely to hold debt on their properties, since they are in a better position to service debt. Lower-income households often either do not own property, or – in the case of retiree households – have already paid off their debt. Figure 2 confirms this for our data set, with a higher share of property owners in the higher income quintiles owing debt on their property.

In addition to wealth and income, labour force status, employment history and educational attainment are also important because they influence past and future income and wealth. As noted by Arrondel and Lefebvre (2001), these factors are important influences on the risks associated with employment and income. They can also proxy influences on property ownership arising from the lagged effects of past choices (see Painter 2000).

2.3 Household Composition

Another aspect that could be important for home ownership and is also partly related to the life cycle is the composition of households. Some previous studies, including Asberg (1999), Haurin, Hendershott and Kim (1994) and Mok (2004), pay particular attention to how the tenure choice of young adults is influenced by household formation. Households may be expected to trade up their housing to cater for children and trade down once children leave the home and the parents enter retirement. With the demand for larger houses associated with larger families, households may be more interested in owning their own home, since the benefits of owner-occupation, such as benefits from capital gains tax exemptions, will be larger. The number of children in a household should be a good predictor of this effect. To the extent that households' tenure choice precedes the arrival of children, marital status might be a good indicator of plans to have children and the desire for the security that owner-occupation brings.

The marital status of the household reference person could also be influential in property ownership and gearing decisions. Different marital status types reflect different degrees of stability in household financial arrangements and the ability to pool resources, which makes it easier to acquire a lumpy asset such as property. Thus, it would be expected that married households who have the ability to pool resources would be more likely to own their own home and purchase investment property. This is also suggested by the data shown in Figure 3. Interestingly, widowed households are also more likely to own their own home, reflecting the benefit of pooling resources in the past in these households. This concords with Bourassa (1995b) who finds that widowed households are more similar to married persons in their tenure choice than to separated, divorced or never married households.

In this section we have analysed a range of factors that are likely to affect a household's decision to own property and to hold debt against it. The bivariate relationships graphed in this section give us a snapshot of the relevance of these factors for our data set of Australian households, but we should bear in mind that these factors are likely to be interrelated. For example, households in the peak of the life cycle are often also at the peak of their income capacity; both are factors that suggest a higher incidence of property ownership. On the other hand, households with children may have the highest demand for housing services, but may also face stricter affordability constraints than childless households. In order to disentangle the various influences, it is necessary to estimate the relationships using econometric models to determine the relative importance of different factors for property ownership and debt decisions of households.

Footnotes

There is also empirical evidence to suggest that consumption and investment demand are determined by different household characteristics. Ioannides and Rosenthal (1994) highlight that investment demand is more sensitive to income and wealth while consumption demand is more sensitive to demographic characteristics such as education, age and family size. [1]

For more detail concerning the data and variables used here and in the models of Section 3, see Appendix A. [2]

Of course tax treatment, such as mortgage interest deductibility on owner-occupied housing, or financial products that allow households to draw down housing assets gradually, such as reverse mortgages, may increase the willingness to hold housing debt when in retirement. [3]

For the purpose of modelling, the wealth measure used in this paper excludes property wealth to correct for the endogeneity of wealth and property ownership. Wealth from business sources is treated separately, in line with Arrondel and Lefebvre (2001), reflecting the different motives underlying the accumulation of business assets compared with other assets. [4]