In an open letter to the banks, APRA (Australian Prudential Regulation Authority) has proposed amending their guidelines to allow banks to determine their own assessment rate.
This will substantially increase the maximum borrowing power of many home loan borrowers.
We responded to APRA in order to advocate for the proposed changes and provide feedback; for the full letter please refer here.
What changes to mortgage lending is APRA proposing?
APRA is proposing to:
- Remove the 7% serviceability floor rate used to assess all home loans (most banks typically use 7.25%).
- Increase the expected level of the serviceability buffer from at least 2% to 2.5% (most banks currently use 2.25% above your home loan rate).
- Remove expectation that a prudent bank will use a buffer comfortably above the proposed 2.5%.
How does it affect my borrowing capacity?
Currently, banks or ADIs (authorised deposit-taking institutions) are required to assess home loans on the ability of the borrower to meet the repayments at a base rate of 7% or 2% above their home loan rates, whichever is higher.
The gap between the 7 per cent floor rate and the actual interest rates paid by borrowers has widened by quite a bit, so APRA is looking to do away with the high floor rate.
However, APRA will still require banks to add a buffer rate of 2.5% on top of the home loan interest rate.
How much more can I borrow?
Under the current model, a single borrower with an income of $100,000 p.a. with no dependents and standard living expenses while being assessed at 7.25% can borrow a maximum of $626,670 for a 30-year mortgage. (CBA calculator)
However, with the new model, if the same borrower is assessed at 6% his maximum borrowing power increases to $713,034, an increase of $86,000 approximately.
That’s roughly an increase of 14 per cent in your borrowing power.
With rates as low as in the mid 3 percentage point, being assessed at 6% is a real possibility as a 3.50% interest rate plus a buffer rate of 2.5% is just that.
Moreover, under the current system, a couple earning a combined income of $100,000 with two dependents can borrow up to $551,470.
The couple’s maximum borrowing capacity increases to $627,470 when assessed at 6% – an increase of $76,000.
Why did APRA propose these changes?
APRA first introduced the existing guidelines in 2014 essentially “to limit excessive borrowing in an environment of low-interest rates and high household debt.”
Overall, there was a need in the past to have a floor assessment rate in case interest rates rose; however, this has not been the case for some time now as:
- In a low-interest rate environment which is expected to persist longer, the gap between actual rates paid and the floor rate has become unnecessarily wide.
- In 2014, a single variable rate was used as the basis for all mortgage loans however, since then the banks have introduced different pricing for different loans. Therefore a single floor rate for both owner occupiers with principal and interest loans and investors with interest-only loans doesn’t make sense.
The proposed changes to assessment rates will affect both the banks as well as non-bank lenders as most if not all also use a similar assessment rate.
How does this affect investors?
First home buyers and property investors who were on the fence will face further competition as demand spikes back up after federal election results, APRA’s proposed changes to mortgage serviceability and RBA’s cash rate cut.
Auction clearance rates are now higher but there’s still limited stock on the market.
An unintended consequence of the current policy is that many investors basically became ‘mortgage prisoners‘ because they were unable to refinance to lower interest rates because of the high serviceability rate in place.
Many lenders took advantage of this situation by increasing interest rates for investors.
This is a significant loss to the Australian economy as these investors could be using this money to invest or spend rather than it going to lender profits.
If APRA’s proposed changes can help these borrowers refinance, then this will be a significant win for the economy even if it is not directly in APRA’s remit.
Negative gearing benefits
Right now, many lenders assess negative gearing benefits at the actual rate rather than the assessment rate which is overly conservative.
As we believe that it is reasonable for them to assess negative gearing at the same rate that they are assessing the new/existing mortgage at.
This would have a significant effect on helping investors who are mortgage prisoners.
However, every lender has its own lending policy; it is up to the lender’s discretion as to how they want to assess negative gearing benefits.
How can we help?
We have over 40 lenders on our panel and their serviceability calculators so we can work out your borrowing power before submitting your home loan application.
Speak with one of our specialist mortgage brokers today by calling us on 1300 889 743 or by filling in our online assessment form and we’ll work with you to get you the amount you need.