Banks have progressively tightened their lending criteria in the wake of the GFC, frustrating investors who can’t source finance for their next purchase. Here API investigates 10 ways to break through the credit ceiling and increase your serviceability limit.
Since the mid nineties Australian mortgage providers have operated under regulatory guidelines designed to encourage responsible lending. One aspect of these guidelines has been the ‘Ability to Repay Test’, commonly referred to as ‘serviceability’.
“Put simply, financial institutions must demonstrate they’re satisfied that borrowers can afford to repay their debt,” Smartline Personal Mortgage Advisers managing director Chris Acret explains. “If lenders don’t demonstrate their satisfaction to that end, they risk their right to foreclose on a client in the event of default.”
Acret says lenders interpret the Ability to Repay Test in different ways and, contrary to popular opinion, the loan amounts lenders deem to be responsible also vary greatly.
“In fact, a recent enquiry made by one of our advisers determined – from a range of 22 mortgage lenders – that a single borrower on a gross annual salary of $60,000 and a credit card liability of $5000 was able to borrow approximately $277,000 with the most frugal lender and approximately $372,000 with the most expansive lender,” he says. “This demonstrates the range within which lenders interpret a borrower’s ability to repay – and that it pays to shop around.”
Since the global financial crisis lenders have tightened their Ability to Repay calculations. “However, while lenders have been making moves to lend us less money, borrowers are faced with growing property prices in every capital city,” Acret says.
These changes don’t mean that securing the right loan for your needs is an insurmountable task, but it’s more challenging and time consuming to wade through the policies, loan types, rates and lenders on offer.
With that in mind, API asked a few experts in the finance field to come up with effective strategies for investors to consider in their mission to boost their borrowing capacity.
1. Consolidate unsecured debts into your mortgage
“Typically, unsecured debts such as personal loans and credit cards have short repayment terms that force you to reduce your debts with expensive monthly repayments,” says Acret. “These high repayment levels impact the bank’s Ability to Repay calculation for your mortgage because unsecured debt limits the amount of uncommitted funds you have available to repay the proposed mortgage.”
Mortgage Choice senior corporate affairs manager Kristy Sheppard says rolling your personal loan or other debts into your mortgage can help your cause because they then won’t show as other financial commitments. “However, this will stretch the debt over the life of your home loan term, attracting more interest in the long run,” she warns.
2. Reduce excess credit, especially credit cards
Acret says if you have any unused credit cards or credit cards with limits that exceed your need for credit, then it makes sense to either cancel the limits or reduce the limits down to a manageable level.
“When most lenders assess your ability to repay a mortgage, they assume that your credit card will be fully drawn up to its limit,” he says.
“Given most credit card providers insist that three per cent of the debt amount be repaid every month, the unused limits can be detrimental to your mortgage borrowing capacity. Every $1000 in credit card limits adds $30 per month to your monthly expenses and reduces your ability to borrow.”
Canstar Cannex senior financial analyst Harry Senlitonga suggests closing all credit card accounts except one.
“It may sound extreme but lenders will look at the credit limit on your card or cards as a liability you may have in the future, even if you don’t owe a solitary cent currently,” he says.
“For instance, if you have a card with an $8000 limit and another with a $4000 limit, a lender will write down $12,000 as a debt against your name. Reducing your credit card limit by $10,000 may increase your calculated monthly disposable income by $300, which has the effect of having a net pay rise of $3600 per annum.”
3. Keep financial records up to date
One of the most common reasons borrowers find themselves well short of their anticipated borrowing levels is that they don’t have up to date financial information to prove their income levels to the lender.
“Simply completing your tax returns on time can help your mortgage adviser secure the loan you’re after,” says Acret.
Senlitonga says it’s also important to show your overall income to your lender, not just your last two payslips.
“In many cases, the last two payslips required by a lender may not give a clear picture of your true income,” he says. “In the situation where you may have a low base salary but high bonus payments, providing your last two payslips could be a disadvantage. Most lenders will be able to provide an alternative way to assess your income which can be based on the group certificate from your employer or even notice of assessment from the Australian Tax Office.
“Concentrating on the bigger picture of annual income rather than the most recent payslips will help.”
4. Select the right loan product
According to Smartline, even within one financial institution there can be a big difference in borrowing capacity levels based on the product you select. “Product features such as interest-only repayments, fixed rates, variable rate discounts and lines of credit can all impact how much the lender will offer,” says Acret.
5. Be aware that income type is treated differently by nearly every lender
Lenders can be very selective when it comes to the type of income they include in their repayment capacity calculations, says Acret. Some income types may be excluded altogether by one lender and fully included by another.
According to Acret, “Almost every lender treats income derived from dividends, second jobs, child maintenance payments, company profits, bonuses, commissions, government benefits, annuities and rents differently. Navigating your way around this maze is very difficult and every dollar that a lender accepts improves your borrowing capacity.”
6. Shop around
It may sound obvious but paying a low interest rate will save you hundreds of dollars on annual loan repayment commitments and thus increase your initial affordability.
“A decrease of one per cent on your home loan rate may free up your cash flow by $260 a month on a $400,000 loan,” says Senlitonga. “This has the same effect of getting a net pay rise of $3120 per annum.”
7. Split your liabilities with your partner
If you’re planning to buy a property under your name only, you can split your expenses on paper with your partner, says Senlitonga.
“For example, two children as dependants may not be counted as your dependants if you can prove that your partner does and will continue to provide for them financially,” he says.
8. Use your properties as cross collateral
Using your property as cross collateral, or cross security, means you provide an existing property as a security to buy another property.
“It’s increasingly requested by lenders because it minimises their risk of lending money against one single property,” says Senlitonga. “In other words, it’s a form of diversification for a lender.”
But be warned, there are pros and cons with this strategy.
“The good thing is it may increase your serviceability to the extent you may borrow at a higher loan-to-value ratio. This may also save you money on lenders mortgage insurance when you borrow above the lender’s threshold.
“The bad thing is, in the event of you being unable to meet the loan repayments, the lender may repossess the securities, which could put your properties at risk.”
Another disadvantage with this option is that it can restrict your ability to refinance with another lender, so make sure you understand all the implications.
9. Extend the term of your loan
The longer the loan, the less the monthly repayments.
“Thirty-year loans for property are considered normal but not many people realise that you can now get 40-year loans in Australia,” says Senlitonga. “Extending your loan term from 30 to 40 years will reduce your monthly repayments by $184 on a $400,000 loan.
“There are more than a handful of institutions offering these extended term loans and, in the right circumstances, a 40-year loan can boost loan serviceability.”
10. Save, save, save
Build up as much deposit or equity as possible. “If you’re using a deposit to secure your loan, be sure to have saved consecutively over at least three to six months, depending on the lender,” Kristy Sheppard says.
Eynas Brodie is the Editor of Australian Property Investor magazine.
Source: Australian Property Investor :: Ten ways to increase your borrowing capacity
