Why do banks care about my living expenses?
When banks assess your ability to borrow, one of the major factors they assess is your spending compared to income.
Your living expenses are a good indication of your character as a potential borrower.
Specifically, banks will identify regular necessary spending such as your bills and groceries compared to regular discretionary spending for items or activities that are not necessary on a day-to-day basis.
For example, banks will raise red flags for regular spending at pubs and clubs or spending on luxury fashion items.
In this way, they’re able to calculate your serviceability or borrowing power.
The key to maximising your mortgage borrowing power is finding a lender that takes a common sense approach and recognises where you can easily reduce your discretionary spending in areas such as entertainment and dining out.
Call us on 1300 889 743 or complete our online enquiry form and we can help you build a strong home loan application.
How do banks calculate your living expenses?
Lenders use a few different methods, including:
- Using the Household Expenditure Method (HEM) based on your family size and income (Australian Bureau of Statistics data) because it is considered unreasonable for someone to spend less than HEM each month.
- Asking you to self-assess your living expenses on your home loan application form.
- Reviewing any bank account (cheque or savings accounts) or credit card statements they have access to in order to confirm your self assessment.
- Either accepting or adjusting your stated expenses to match your bank account history.
- Either using the higher of the above living expense assessment methods to calculate your living expenses.
A lot has changed over the past couple of years, with some banks requiring you to estimate your spending in 12 or more living expense categories!
How will the living expenses calculator help me?
Borrowers are required to manually work out their living expenses on a weekly or monthly basis when they complete their home loan application.
You’ll still need to self-assess but the calculator will give you a fairly accurate indication of how your spending compares to the average monthly cost of living in Australia.
Are you spending more than the HEM?
The calculator result should be used as a general guide only as your living expenses can vary significantly depending on how you choose to spend your money.
It’s best to speak with a mortgage broker to discover whether there are lending options available to you.
In some cases, it may be a matter of setting a 3-6 month plan of budgeting and cutting out necessary spending.
Check out our prepare to buy program if you’re not quite ready for a home loan.
Tips for using the calculator
The calculator takes all basic living expenses into account such as groceries, utilities, phone, public transport/car and entertainment.
The cost of renting or mortgage repayments is calculated separately so you can replace the figure with your own estimate after you decide where you’d like to live.
What items are expensive in Australia?
The cost of living in Australia is significantly higher than most countries, including other developed nationas like the UK and the US.
In particular, you’ll find that the following items are much more expensive:
- Housing (rent and house prices)
However, Australians tend to have a much higher income so it’s still possible to enjoy a good lifestyle.
Example of HEM living expenses measure
The cost of living can vary signficant depending on the make up of your household.
Below are some example results of the living expenses calculator which include the cost of monthly mortgage repayments based on average Australian house prices:
- Living cost in Australia for one person: $2,835 per month
- Average living expenses for a couple: $4,118 per month
- Average monthly living expenses for a family of 4: $5,378
Input your own details to find out how your living expenses really compare with the national average.
The most expensive cities in Australia
The most expensive cities in Australia are Sydney and Melbourne.
Perth and Canberra are also relatively expensive but it’s people living in the other capital cities such as Brisbane and Adelaide that have some of the lowest living expenses in Australia.
An exception to this is if you live in a very remote area such as a mining town.
You may find that your average cost of living is high due to the cost of bringing goods and services to your community.
Why do banks use the HEM?
Under the National Consumer Credit Protection Act 2009, Australian banks must make allowances for living costs when they run borrowing power or serviceability assessments for applicants.
The industry regulator, the Australian Prudential Regulation Authority (APRA), doesn’t provide specific dollar figures for banks to adhere to so for years they were using the Henderson Poverty Index or Henderson Poverty Line and added an allowance.
In 2012, the Commonwealth Bank (CBA) switched to HEM and other banks followed.
Banks don’t just rely on the HEM
Most Australian banks certainly rely on the HEM as a guide but they also use their own measures, such as adding an assessment rate or interest rate buffer.
By assessing your borrowing capacity at a higher rate, they can determine whether you’ll still be in a comfortable financial position should interest rates rise.
Banks don’t publish these rates and HEM buffers.
Relying heavily on living expenses is not a perfect system
When lenders ask you to estimate your living expenses, they take the higher of the HEM or your declared expenses.
The problem with having a high income is that they’ll tend to scale back your living expenses to be appropriate for your income, reducing your borrowing power.
If your declared living expenses are too low, you may get knocked back even though you may, in reality, be really good with your spending.
Want to know if you qualify for a home loan?
We’re specialists in the lending policies of the major banks and many second-tier lenders.
There are some lenders that take a more common sense approach to your spending, allowing you to maximise your borrowing power and get approved for the loan amount you need.
Call us on 1300 889 743 or complete our free assessment form to speak with one of our mortgage brokers today.