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Tired of paying rent to a lazy landlord and watching your friends become homeowners, you crunch the numbers and figure out you can get a home loan at an interest rate of 3.7% per annum.
After sifting through the auction results and doing your sums you calculate that you’ll need a loan of $400,000 to buy a desirable property with an acceptable commuting distance to work. You plug the numbers into the MoneySmart mortgage calculator and it tells you that, including fees, your repayments will be $2,056 per month for the next 25 years. You’ve worked out your monthly budget and, yes, you can manage those repayments and still have a bit left over.
Now you have your eye on a home within your price range. You apply to your bank to borrow $400,000, but when the answer comes back it’s “no”.
Don’t blame the bank
Much as bank bashing is akin to a national sport, your bank would probably be quite happy to lend you the amount you asked for. However, in early 2017, banks and other lenders received a letter from the Australian Prudential Regulation Authority (APRA). APRA is the government body charged with making sure that banks behave responsibly, and though it may not feel like it, it does have your best interests at heart. The regulator is concerned that, with interest rates lower than they’ve ever been, we’ve gone on a bit of a debt binge. If, (or more likely, when) interest rates rise, a lot of Australian households are going to have real trouble meeting their home loan repayments.
The upshot is that, amongst a number of requirements, APRA has instructed lenders to apply an interest rate buffer when assessing loan applications. Specifically, this means that your bank is required to check your ability to meet your loan repayments at “the higher of either at least 2 per cent above the loan product rate and a minimum assessment interest rate of at least 7 per cent.” In your case, that means testing your mortgage application at a rate of 7%. This would push your monthly repayments to $2,837, an extra $781 to find each and every month.
APRA has also warned lenders that it will be looking out for cases where they are making loans to borrowers with only a small monthly income surplus – another hurdle to overcome.
Are there options?
Of course you’ll be disappointed that some bureaucrat is leaning on your bank to reduce the amount they will lend to you, but mortgage stress is a real and growing problem. It really is better to be prudent about debt.
So what can you do?
Start with a realistic review of your finances. A financial planner can help you with this but some initial actions include:
- Get rid of unnecessary credit cards, as the entire limit, not just the card balance, is counted towards your total debt burden.
- Pay off any personal loans as quickly as possible.
- Go back to your budget and see what expenses you can cull without being too austere.
- Can you save a bigger deposit, reducing the amount you need to borrow?
Armed with advice and updated figures, take another look at the market. Stress test your proposed mortgage to see if you can cope with significantly higher interest rates. If it fails, don’t give up on your dreams of home ownership, just be realistic. If necessary, set your sights on properties that are more affordable, making life a bit more enjoyable.