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Where do you stand with your investment property borrowing power?
Every year, thousands of Australians join the property market and a large proportion choose to invest in property for capital gains and tax benefits.
By applying with the right lender and presenting a strong case, you can maximise your borrowing power and invest in dream real estate.
What is my investment property borrowing power?
As mentioned earlier, your investment property borrowing power or serviceability is an indicator that determines your capacity to afford an investment loan.
Most lenders use a same basic formula when calculating your borrowing power.
Gross income – tax – existing commitments – new commitments – living expenses – buffer = monthly surplus
What do banks look for?
The factors that influence your borrowing power usually depends on the lender that you apply with. Generally, when assessing your loan application, lenders will take into account:
- Your annual income,
- Your monthly expenses,
- The type of loan that you’re applying for,
- The current interest rate,
- The type of repayment, usually principal and interest (P&I) or interest only,
- The loan term, and
- Estimated monthly repayments you’ll be making.
Lenders will generally ask you to provide certain document to prove your income.
Don’t have acceptable documents to prove your income?
Call us on 1300 889 743 or fill in our free online assessment form.
You may qualify for a low doc solution instead!
What if I already own a property?
If you currently own a property, whether it’s an investment property or your own home, the bank will take into account the associated costs and liabilities.
This includes your monthly mortgage repayments, bills, utilities and council rates.
However, depending on the amount of available equity you have, you can also borrow against the value of your home to maxmise your investment property borrowing power.
Typically, you need to have paid down your home loan to at least 80% of the property value or less before you can access this equity.
This is the cheaper option.
You can release equity at 90% of the property value with some lenders but you will have to pay a once off Lenders Mortgage Insurance (LMI).
Want to access equity to buy an investment property?
Major expenses associated with buying an investment property
There are several costs associated with buying a property. These expenses need to be considered before you decide to buy.
Some of these costs include:
- Loan application fees.
- Government fees such as stamp duty and land transfer fees.
- Legal fees and conveyancing fees.
- Building and content insurance.
- Lenders Mortgage Insurance (LMI).
- Inspection fees, including building and pest inspection.
It’s important to consider your costs before applying for a loan because it can significantly affect your investment property borrowing power.
What other factors affect my borrowing power?
The Australian Taxation Office (ATO) recently launched a new program to make sure property owners are meeting their tax obligations.
This program has already hit property investors, such that their investment property borrowing power is greatly reduced.
When assessing your borrowing power, lenders will generally take into account your:
- Credit history.
- Loan to value ratio (LVR).
- Credit score.
- Genuine savings.
- Employment status.
Different methods to calculate serviceability
All lenders have their own methods to calculate your investment property borrowing power.
Their methods vary in the way they assess your income and expenses, as well as the way they display your results.
There are three methods that lenders use to calculate your serviceability, which include:
Net Surplus Ratio (NSR)
The NSR establishes the number of times your income can cover your expenses by determining your current debt, proposed debt and living expenses. A NSR can be calculated as:
After Tax Monthly Income – Total Monthly Living Expenses) / Total Monthly Commitments (New and Existing debts
Debt Servicing Ratio (DSR)
The DSR is based on the assumption that a third of your income will go to tax, a third to living expenses and the remainder of your income can be used to pay for your mortgage.
This method is quite simple and fails to take into account negative gearing benefits and living expenses. This makes it very inaccurate and, hence, is now rarely used.
Surplus / Uncommitted Monthly Income (UMI)
The UMI is your available income after deducting all monthly expenses from your gross monthly income. This also includes your loan repayments.
Among these, lenders used to rely on DSR the most. However, because of its over simplicity and inaccuracy (especially when dealing with property investors), it has been ruled out by most lenders.
Speak with one of our brokers on 1300 889 743 or fill in our free online assessment form to get a better idea of these methods and to figure out if an investment loan is the right option for you.
Will banks use proposed rental income?
Lenders will accept a percentage of proposed rent income but it depends on the lender and the type of property you’re buying.
Typically, a lender will accept:
- 80% of the rental income for a residential property.
- 70% of the rental income for an inner city apartment, however, this can vary depending on the lender.
- 60% of the rental income for a commercial property.
- Lenders generally assess your loan application on a case by case basis if the property is a serviced apartment.
Lenders may also include notional rent, the minimum price at which you’re expected to rent out your property, if you’re living with your parents.
What factors affect my surplus?
Your surplus is referred to as the main indicator when calculating your serviceability. Your surplus generally includes:
- Gross income: All of your base income is accepted by lenders during assessment. However, any other income you have, including overtime, bonuses and commissions, rent and tax-free income, is viewed differently depending on the lender.
- Taxes and Medicare: Your tax and medicare payments are assessed differently by different lenders.
- Existing commitments: Any financial commitments, including your current mortgages, credit cards, personal loans and rent, are taken into account.
- New commitments: Lenders usually add a 1% to 3% buffer on top of the actual interest rate you’ll be paying when assessing your monthly repayments.
- Living expenses: Most lenders, as of 2012, have started using the Household Expenditure Method (HEM) to determine your living expenses. Lenders normally use the higher of either your estimated living costs or the minimum expenses of a family of your size that they have calculated.
- Buffer: Depending on the lender you apply with, a buffer is added to your expenses to mitigate risks from unexpected circumstances.
How much should I borrow?
Although banks calculate how much you can borrow, the amount you should borrow depends on your situation. This may depend on:
- Your standard of living.
- Any future plans you have that the bank doesn’t know about.
It’s important to note that borrowing to your limit can put you at risk, especially if interest rates rise. Each lender has their own criteria to qualify.
Despite this, the most important factors that banks look when assessing your borrowing power include:
- Your current financial commitments,
- debts, and
- Your income.
Disclaimer: It is recommended that you speak with your accountant and make sure all of your financial commitments are covered by your income before you decide to apply for a mortgage.
What if I’m borrowing with a partner?
Banks have a slightly different approach to clients taking out a joint mortgage. As a general rule:
- A person having a high income can make up for the one that can’t afford their share of the repayments.
- A person with a good credit history can’t compensate for a person with bad credit. However, you don’t need to worry about this if the lender doesn’t use your income to assess your serviceability.
- Lenders have a more favourable credit scoring process than for a single applicant.
- Depending on the lender you apply with, the asset position of each borrower is assessed differently.
Apart from these, you’ll need to provide standard home loan documents as if you were buying an investment property as a single buyer.
Speak to us today!
Not sure if you qualify for an investment loan?
Our mortgage brokers are experts in getting investment loans approved. Many of them are property investors themselves so they know exactly what property investors need to get approved.
Speak with one of our brokers on 1300 889 743 or complete our free online assessment form and find out if you qualify for an investment loan.