“They are so much harder than four years ago.” Imagine my relief when I realised my doctor wasn’t talking about my arteries but the procedures he’d just endured to get a home loan.
Did you catch this was a doctor? From having money virtually thrown – on the spot – at him in just 2014, this pre-approval process took a month, a mountain of documentation … and resulted in a loan-to-value ratio, despite significant assets, capped at 80 per cent.
Why so different in such a short period? The royal commission into banking – again supplying us with a jaw-dropping week – has persuaded lenders to heed in earnest tighter lending criteria set by regulators several years ago.
“The bank eventually gave us the amount we wanted. But I had to reduce my credit card limits,” my doctor tells me. “And it’s lucky we’re responsible spenders as we wouldn’t have got nearly as much.”
And those, dear readers, are the two most likely factors that will today see you denied a home loan.
They are also, crucially, potential road blocks to the 1.5 million households coming off interest-only loans in the next few years, if they want to renegotiate loan terms? say, extend the loan term to 30 years to minimise the jump up to principal and interest repayments.
This “material change” now requires a full serviceability assessment – just like my shocked doctor. Failing would mean a bigger-than-expected hip-pocket hit … and the refinance rejection rate has spiked to 40 per cent in the past year, according to Digital Finance Analytics.
The good news is you don’t have to be rejected and dejected. You can fix the two factors that are making institution loathe to lend.
Step 1: Curb your credit
“I pay off my card each month but they said: ‘We count your whole credit limit as if you’ve spent it all’. I guess that’s maybe that people do after they buy a house?” my doctor recounted.
Though the specific requirements for a loan vary from lender to lender, your capacity to repay is what their inquiries are all about.
This is calculated from your after-tax income, minus your cost of living (more in a mo) and minus your repayments for existing liabilities.
And yes, you could run up your credit card the day after you sign the mortgage… so regulators now insist there’s enough fat in your finances to clear a maxed card in three years.
Craig Morgan, managing director of Independent Mortgage Planners, explains lenders now typically assume that your credit card will cost a monthly 3.75 per cent of its limit (albeit unused). So if you have a $10,000 limit, that’s $375 of your repayment capacity for a home loan each month, gone.
If you have a $50,000 limit – Morgan says not uncommon for clients he sees – that’s $1875 of your salary that will be considered ‘‘unavailable’’.
“Even for someone with a $150,000-a-year income, $1900 a month less money is going to dramatically shrink the loan size,” he says.
Figure out how much ‘’capacity’’ you’d lose from limits by multiplying them by 0.0375. Remember, too, that a lender will usually calculate your home loan repayments at 7 per cent interest (another regulator rule change).
Is there enough spare money to cover both? If not, reduce your credit card limits – now.
Step 2: ‘HEM’ your spend
You’ve probably heard prospective lenders have started requiring three months of living expenses… and proof via all bank statements.
Fairfax Money has obtained the 12 most common categories on which you’ll need to report.
What banks will do is get an aggregate number and once again net this off your salary to identify your leftover for a loan.
So be careful what you spend in the quarter before you intend applying – and be particularly so at Christmas if you’d like a loan approved before, say, April next year. Even a little Christmas splurging could do a lot of harm to your chances.
But getting super frugal won’t help either. That’s because lenders use the higher of your actual expenses and (most often) the household expenditure measure (HEM), a benchmark adapted from the ABS Household Expenditure Survey … no point squeezing below it.
Your assumed “cost of living” will depend on your income, location and household composition. For example, HEM for a couple might
be $4100 a month while for a family with two kids, it could be more like $5400 (including mortgage repayments).
(Note there’s just been a big fight over HEM with Westpac winning a case ASIC had brought over the bank’s failure to do an actual cost of living assessment, and relying instead on the benchmark. The Federal Court basically said that’s the letter of the law – if not the regulation… so expect that law to change soon.)
Whatever you do, don’t have a last, pre-mortgage hurrah – it will really hurt you.
And be aware the royal commission is mainly focused on banks and that not all lenders fall under APRA. You might find the application process a bit less rigorous with a non-bank lender.
The 12 expenses a lender will want to knowd where to cut costs in the three months prior to application, to maximise your loan size.
- Groceries (and other household expenses)
- Clothing and personal car
- Owner-occupied utilities and rates
- Investment property utilities and rates (if applicable)
- Transport costs (fares, fuel, registration etc)
- Telephone, internet and other media (pay TV etc)
- Medical and health
- Recreation, sport and entertainment
- Child maintenance (where applicable)
SMH/ 25 November 2018