Why having a lot of equity doesn’t mean you can borrow more

It seems one of the hardest things to understand as an existing home loan customer is why your maximum loan amount has relatively nothing to do with the equity you have.

“Why can’t I borrow more, I have loads of equity”, The two things are entirely unrelated.

I can see where you are coming from – you figure there’s no way you won’t make your repayments because you have too much to lose, and even if you did the bank wouldn’t be out of pocket.

But that doesn’t mean you can afford your repayments. It doesn’t say where the money is coming from to make them and it doesn’t say that the repayments won’t put you into financial hardship.

Affordability (can you actually meet the repayments without discomfort) is one question – equity (the bit you own) is a different thing.

During 2017 we saw lenders having to meet increasingly stringent criteria around proving you can actually afford the loan you are being offered. This isn’t going to change.

Did you know that most lenders test your borrowing ability allowing for significant interest rate rises? Last year most of these buffer or reference rates were increased to 7%+, in some cases they’re using 8% as a test!

To give you a quick summary, the lender takes:

Your gross (before tax) income from all acceptable sources
deducts your tax
deducts living expenses based on your advice or the average for your suburb, income and family size
deducts your existing commitments, which includes allowing for full repayments on your credit card in case you happen to max it out
Whatever is left is potentially all you have available for the new repayments, factoring a 7-8% interest rate.

While the method is unchanged, increased living expenses and buffer rates has led to a significant reduction in what most can afford to borrow.

The average living expenses is a moving target; and typically increases every year; you might find you don’t qualify for your existing lending or pre-approved lending as you move down the track despite nothing changing in your circumstances. This can be extremely frustrating I know. That’s the unfortunate result of some of the industry changes which are being overseen and enforced by government regulators. This makes moving lenders more challenging, but we work hard for you and to strive to achieve the best possible outcome.

Hopefully this makes more sense as frustrating as it might be.

If you have any questions or would like any further advice, contact Ben Judd from Mint360finance on 02 8383 7924

This article provides general information only and has been prepared without taking into account your objectives, financial situation or needs. We recommend that you consider whether it is appropriate for your circumstances. Your full financial situation will need to be reviewed prior to acceptance of any offer or product. This article does not constitute legal, tax or financial advice and you should always seek professional advice in relation to your individual circumstances. Subject to lenders terms and conditions, fees and charges and eligibility criteria apply.

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