There is no doubt that Banks and other Lenders within the Australian home loan market have tightened their lending standards over the last 12 months. This tightening is having a significant impact on the borrowing capacity of many Australians looking to obtain a Home Loan.
However the good news is that with some focus and financial management you can still present a strong case on your borrowing capacity to the Banks.
The below provides some tips on how to maximise your borrowing capacity.
Know and manage your living expenses
The area lenders are most focusing on in their tightening is your living expenses. Lenders will request that you provide at least your last 3 months bank statements for your transaction account, savings account and any credit cards or other loans. They are then almost ‘forensically’ examining these to check against what you have declared as your ongoing living expenses.
While many of us change our spending habits when we take on a new commitment, such as a Home Loan, the banks will assume that you will continue to spend like you have over recent months.
So regular debits such as Uber Eats, dining out, Netflix, etc will be expected to be included in your living expenses in line with recent months expenditure.
We have had many experiences of banks questioning things from pet insurance through to lifestyle aspects of online betting and regular alcohol purchases to justify they have been included in ongoing expenses. If they are shown on your recent statements, banks want to see where they are included in your living expenses.
It is therefore very important that you consider your spending habits and expenses in the months prior to applying for a home loan. If you don’t already, consider creating a budget and monitoring your spending against that budget.
Make your savings history demonstrate your borrowing capacity
One of the best ways to demonstrate that you can afford a loan is to demonstrate that you have been saving more than the required loan repayments.
I would strongly advise speaking to your Mortgage Broker or Lender to find out what your loan repayments would be on the loan amount you think you will require. But the real trick here is to work out the repayments at an interest rate that is 2.50% – 3.50% p.a. more than the current interest rates available. Why? Because lenders utilise a benchmark rate to assess your borrowing capacity that can be up to approximately 3.50% p.a. great than the rates they are currently offering. This is to make sure that you will not incur hardship should interest rates increase.
Once you know this amount your focus is to regularly (i.e. each pay day) transfer the equivalent amount into a separate savings account, and then make sure you don’t touch these savings for any reason until you purchase a home.
If you currently pay rent, the amount you need to save is the difference between the required loan repayment and your rent amount.
Taking this approach will also give you an indication of what your lifestyle position will be after you purchase a home. The extra savings might even mean that you can borrow less when you find your dream home!
Reduce Credit Card Limits
We see many home loan applicants with credit card limits well beyond what they need. If this is you, contact your bank and request that they reduce your credit limit, and even consider cancelling the limit all together.
Credit card limits can have a significant detrimental impact on your borrowing capacity. Lenders will assume that you draw down the full limit and calculate the repayments you will need to make to repay that limit over an acceptable time frame. So even if you don’t use the credit card, it is reducing your borrowing capacity.
Maintain a strong credit rating
In Australia there is increasing focus on your ‘credit score’ when you apply for a Home Loan, and credit reporting is providing lenders with an increasing level of detail of your credit history.
You therefore need to stay focused on your finances and make sure that you completely avoid any excesses on credit limits, late payments or overdrawing of your savings accounts.
We have seen examples of Banks that will allow you to overdraw your account or exceed your credit card limit (and happily charge you a fee to do so), and then decline your loan application as a result. In many cases the amount of the excess is very minor (i.e. less than $100) or even for a very short time frame (i.e. overnight), but it still has a negative impact on your borrowing capacity.
My advice is therefore to make sure you stay on top of your finances and make sure all commitments are paid on time.
Avoid ‘buy now and pay later’ programs
These type of short term facilities have grown in popularity over the last few years and it is becoming more and more common for first home buyers to regularly utilise these facilities.
I would suggest you avoid these offers and only make purchases of what you can afford now. If Banks see regular payments for these facilities over recent months they could potentially add an allowance to your living expenses to allow for them, even if you currently don’t have any outstanding payments.
Gain early advice from a finance professional
Seeking guidance from a Mortgage Broker, or experienced lender, well before you are looking to purchase a home will provide you with advice on what your current borrowing capacity may be. You will get a clearer picture of how your current position will be viewed, and how you can best structure your finances to get a positive response on your application when you are ready to apply.
The benefit with Mortgage Brokers is that they generally have relationships with a wide range of Lenders, so they can also provide guidance on whose loan policies may best suit your individual circumstances.