The real deal behind your borrowing capacity

Ms Paliwal underscored the importance of being smart about your mortgages when purchasing an investment property. After all, she said that the “property game is as much as a finance game”. 

When your lender puts a figure on your borrowing capacity, Ms Paliwal advised re-evaluating the numbers. 

The expert advised people against using the figures given by their lenders as their only guideline. “There are many aspects that could change or improve your borrowing capacity when you do purchase,” she said. 

The duo walked through several scenarios of how different factors, including rental yields and your rental payments (or lack of), can impact your borrowing capacity. 

The first factor she highlighted is rental yield. She said that there is more capacity to be generated when there is a varying rental yield towards the investment property you are looking to buy. 

Using an example, Ms Paliwal explained how as little as a 1 per cent difference in rental yield could significantly bump up your borrowing capacity. 

“You’re single, living at home with family, you’re on an ADK average wage per annum, and you’ve got a credit card with $5,000 limits, and you’re basically looking to borrow what your maximum is.” 

“So if we were looking at a $615,000 purchase price, let’s say you want to borrow 90 per cent, which is the maximum with a 3 percent rental yield.” 

She pointed out that increasing the rental yield to 4 per cent could result in an almost $100,000 bump in the borrowing capacity; From $553,000 to $650,000. 

Before going to your lender, Ms Paliwal advised having an estimate of the property’s purchase price to maximise your borrowing power. “If you have a goal or an idea of purchase price range, that will help influence your borrowing capacity. Because again, it determines potential rental yields that the lender could be using to influence your servicing,” she said. 

Mr Arjun added that it’s important for prospective borrowers to understand what banks are using in terms of rental yields.

“[If] you went to location A and got a 3 per cent yield, the deal might work. But then, if you go to location B and you’re able to get a 4 per cent rental yield, you might now be able to up that by $100,000, then that’s probably looking at a $700,000 purchase price, if not more,” he said. 

The experts also revealed just how much rental payments could have an impact on an individual’s borrowing capacity. 

For the example given, they assessed the impact of “notional rent” on an individual’s borrowing power. Ms Paliwal explained that even if you live rent-free in a property, the lender will still factor in an assumed rental payment into your loan application. This is called “notional rent”, and under the law, banks must factor in an amount that a borrower could pay as rent in their servicing. 

Notional rent protects borrowers in case of financial emergencies. Basically, anything you can afford to repay above that notional rent the lender may let you borrow.

Generally, most banks will set the notional rent at around $650 per month. But Mr Arjun said that the set figure is “conservative” at best.

Ms Paliwal noted that the notional rent could vary per bank, depending on their policies. 

“So your big four, Westpac, CBA, NAB, for example, this client’s living at home with family, so notional rent is what’s being used, even if you’re living at home rent-free. So, in those three bank instances, they’re using $650 per month for notional rent, whereas ANZ, for example, they’re using $450 per month notional rent when you’re living at home with family,” she said. 

The duo highlighted that the notional rent, coupled with rental yields, can significantly impact your servicing. 

Mr Paliwal explained: “[If] Westpac, CBA, and NAB, as an example of what you said, they’re going to take not $500, they’re going to take $400 a week as your rental, whereas ANZ is going to assume that your rental is $450 a week at 90 per cent, that’s a pretty decent difference.”

In conclusion, the duo advised investors to explore all possible options to see their optimal borrowing capacity. 

Mr Paliwal recommended having a mindset of: “If lender A and B don’t do it, this is what lender C can do.” 

Listen to the full conversation with Arjun Paliwal and Leigh Paliwal here.