Busting myths around boosting borrowing power

Notably, since the Reserve Bank of Australia (RBA) began its interest rate rise cycle in May 2022, it has hiked the official cash rate to 4.35 per cent, the highest since May 2012.

Coupled with this are the latest consumer price index (CPI) numbers from the Australian Bureau of Statistics (ABS). It showed that for the year to September 2023, inflation rose by 0.4 percentage points from August to 5.6 per cent (up 0.7 percentage points over the last two months).

At its broad meeting at the start of November, the day of the Melbourne Cup, the RBA hiked rates again after a hiatus of four months. This has certainly placed additional mortgage stress on mortgage holders, and it could also potentially hinder those looking to secure a loan in the near future.

It may also put the breaks on some investors gearing up for their first, or their next, investment property.

A question I get asked all the time is: “How do I increase my borrowing capacity? How do people buy multiple properties?”

My answer is simple. While interest rates and inflation are outside their circle of control, you can take a number of steps to improve and maximise your borrowing capacity.

How does servicing work?

Let’s get down to brass tacks and outline how servicing works.

To determine capacity, a borrower will deduct all your expenses from your income and see if you have any surplus at the end of the period assessed. This surplus income will give a lender a sense for your capacity to take on any additional debt, and they will usually apply a buffer (usually 3 per cent of the interest rate of the loan you’re seeking) to take in further fluctuations, and to ensure you can meet the requirement of the loan repayments.

One of the measurements lenders use to determine borrowing capacity is a borrower’s debt-to-income (DTI) ratio. This compares the amount of debt they have with their overall income. Lenders use the DTI ratio to measure a borrower’s eligibility for credit based on their perceived ability to manage loan repayments.

A DTI ratio of between six and eight is typically considered to be high and could affect a borrower’s ability to secure a mortgage, while a DTI ratio under 3.6 is often viewed favourably by lenders.

How to raise borrowing capacity

There are a number of different avenues for borrowers to increase their serviceability and fast track their journey to purchasing investment property. This is the secret to improving and maximising your borrowing capacity:

• Get a pay rise

While it could be difficult to increase your base wage, some lenders view bonuses, commissions and allowances differently. For example, some lenders include the bonus income in their assessment of the home loan application and the amount of loan they approve. Borrowers who receive annual or quarterly bonuses could choose a lender that assesses up to 100 per cent of their bonus income.

It’s also worth a try to get a raise on your base salary, or even try to come up with some variable commissions payments connected to your performance or KPIs, if not already in place.

You can also get a second job or a side hustle. This additional income will help you potentially save for a deposit faster, it will also lift your accessible income in the eyes of the lender.

• Increase your rental income

If you already have an investment property, lenders will potentially take your rental income into account when assessing additional borrowing capacity. But every lender is different.

Every lender has their own system to assess the rent borrowers receive from their investment properties. As a general rule, lenders will use 80 per cent of a borrower’s gross rental income along with their other income, such as their salary.

This is because they assume that 20 per cent of the rent received will be used to pay the property manager’s fee, along with council rates, strata levies, repairs, and to cover for any vacancies.

This is not the same for all lenders, so your broker can work out which lender will be right for you.

• Reduce unsecured debt

Accumulating and having access to unsecured debt via credit cards, car loans and personal loans could become impediments to servicing capacity. As such, it should be kept to a bare minimum.

Similarly, while subscription payment platforms and buy-now-pay-later (BNPL) providers offer interest-free loans, using them could also limit your serviceability and impede capacity.

Another one I see often is novated leases. Borrowers may believe they are getting a strong deal but it could significantly impact their servicing capacity, particularly if there are post-tax deductions.

Finally, HECS-HELP debts could impact your capacity depending on your income, and as such, paying it off could be beneficial.

• Cut your living expenses

Typically, lenders consider the applicant’s three-month average spending, so it’s wise to curtail spending for three months before applying for a loan.

On top of this, the lender may add extra expenses (known as the household expenditure measure system or HEMS). These are standard assessments lenders make on your living expenses, which they factor into your serviceability. Remember, out-of-norm expenses like health insurance, private school fees and overseas holidays are factored in addition to the base line HEMS expenditure.

• Pay down your owner-occupier debt

You can potentially utilise your savings to repay owner-occupier loans and recycle the equity to invest in a new investment property. There’s a lot more detail to this, so speak to your broker and also your accountant to work out if this might be an effective way for you to maximise or improve your borrowing – it might not be right for everyone.

• Trust investing

Before reaching full capacity investing in your personal name, consider investing via a trust. If the trust is positively geared, some lenders may not include the debt in the trust connected to the properties as part of any serviceability assessment for additional mortgage finance. There are also other benefits in trust investing, but it has both pros and cons – I’ll address these in my next article as it can be very detailed; however, ensure you get good advice from your accountant regarding the requirements and restrictions of trust investing, and also ensure you structure your finances right.

I hope these tips help you embark on your next property purchasing endeavours.

Eva Loisance is the manager, broker division, at property investment finance specialist business Finni. Visit www.finni.com.au, or call 1300 002 023.