When it comes to buying your first home, second home or your forever home, establishing how much you can borrow is critical.
The phrase “borrowing power” gets thrown around by the banks and mortgage brokers, but what exactly is it and how can you make sure that you can borrow what you need to, to get you into your dream home?
So to answer the question, how much can I borrow? Well, like many things, it depends. Your lender (e.g. your preferred bank) or a mortgage broker who is trying to help you with a home loan, will typically ask you a range of questions to determine how much you can borrow.
Lenders use your borrowing power to determine whether or not you can afford your monthly home loan repayments. Banks don’t want you to get into financial hardship any more than you do, which is why your borrowing power is so important. This was one of the reasons for the banking Royal Commission and why lending was tightened post-GFC.
Your borrowing power is also important to establish upfront because it determines where and what you can afford to buy.
There’s many “how much can I borrow?” calculators out there and we’ll link to a few of them below, but here are the key questions that any calculator, lender or mortgage broker will ask. We recommend preparing these questions before speaking to and lender.
Your deposit has a significant impact on your borrowing power. This probably sounds pretty obvious, but the bigger your deposit, the lower your repayments and the better your borrowing power.
That’s because of something lenders call your LVR — or loan-to-value ratio. An 80% LVR is pretty standard meaning that you have a 20% deposit and will borrow the remaining 80%. If you have a smaller deposit and therefore a higher LVR, you’re likely going to need Lenders Mortgage Insurance (LMI).
If you can’t demonstrate a good saving pattern and if you don’t have a good credit score, you will be a “high risk” for any lender.
Lenders use your credit score (or credit rating) to decide whether to give you credit or lend you money. Knowing this can help you negotiate better deals, or understand why a lender rejected you.
Your credit score is based on personal and financial information about you that’s kept in your credit report and you have the right to access your credit score and credit report for free.
It’s a good idea to get a copy of your credit report once a year to keep on top of things and monitor any potential red flags that could impact your borrowing power.
Although you can get your credit report for free, you may want to pay for it if:
Here’s a list of credit reporting agencies that you can contact to get a copy of your credit report:
Your credit score is based on what’s in your credit report, which includes how much money you’ve borrowed, the number of credit applications you’ve made and whether you pay on time.
Depending on the credit reporting agency, your credit score will be between zero and either 1,000 or 1,200. The credit score relates to a five-point scale (excellent, very good, good, average and below average) and this helps a lender work out how risky it is for them to lend to you. A higher score means the lender will consider you less risky, which could mean getting a better deal and saving money.
Having a big credit card limit may sound great, but for a lender, a $20,000 credit card limit is the same as having $20,000 as credit card debt.
Because your credit card limit is already an approved line of credit, the bank knows that you could technically go out on a shopping spree and max your credit card at any moment. So before applying for a loan, it’s a great idea to consolidate your credit cards and lower your limits where possible. This will help you to maximise your borrowing power.
No. You want a home loan that you can afford every month, not a loan that puts you under stress and at risk of financial hardship and default. And since the GFC, banks and mortgage brokers are more onto this anyway and they will happily trawl through every line of your credit card and bank statements in extreme detail.
They may even quiz you on the number of times you’ve gone out to eat smashed avocado for example.
There’s plenty of online home loan calculators out there, but here’s a few from the big-4 banks.
Finding out the answer to “how much can I borrow?” is one of the first things to do when starting your home-buying journey.
If you don’t know how much you can borrow, you won’t know where you can buy and what you can buy. And in a highly-competitive property market, understanding and improving your borrowing power could be the difference between having the money to buy your dream home or missing out entirely.
Remember that your deposit, savings history, credit score, monthly expenses and credit card limit are essential factors in determining your overall borrowing power.
With some research, discipline and some advanced planning, you can put yourself in the best position to get into your dream home.
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