As interest rates continue to rise, it’s important to understand how they can affect your borrowing capacity. When you apply for a home loan, lenders evaluate your final situation to determine whether you can repay the loan. To ensure responsible lending, lenders calculate your serviceability using a higher interest rate than what you were offered. This helps ensure that you can afford to repay the loan if the interest rates were to increase suddenly.
Currently, banks use a 3% buffer to calculate your home loan serviceability. While a high serviceability buffer isn’t bad as it can help you avoid mortgage stress, it also means your borrowing capacity could decrease as interest rates rise. As a result, you may find you can no longer afford to buy your dream home. However, there are steps you can take to improve your borrowing capacity and secure a loan that meets your financial requirements.
Steps you can take to improve your borrowing capacity:
1. Improve your credit score
A higher credit score demonstrates that you’re a responsible borrower, which could help you qualify for a lower rate on your home loan and improve your borrowing capacity. You could improve your credit score by paying your bills on time, reducing your debts, and reducing the credit limit on your credit card if you don’t need it.
2. Pay off your debts
Your debt-to-income ratio is a crucial factor that lenders consider when calculating your borrowing capacity. Debt-to-income ratio signifies the percentage of your monthly salary that goes towards servicing your recurring monthly debts.
If your DTI ratio is more than 60%, it could be a red flag for lenders, as you may have little left to meet your ongoing monthly expenses once you pay off your debts. Taking steps to reduce your debt could help you reduce your debt-to-income ratio and potentially increase your borrowing capacity.
3. Consider a longer loan term
A longer loan term gives you more time to repay your loan, which could result in lower monthly repayments. This may help to increase your borrowing capacity, but you could end up paying more interest over an extended term.
4. Save for a larger deposit
The more you save towards a deposit, the less you’ll need to borrow. A larger deposit also reduces the lender’s risk in lending you money, which could help increase your borrowing capacity.
5. Get a guarantor
Lenders typically require you to pay at least 20% of the property’s price upfront before approving you for a home loan. Alternatively, you may need to pay for Lenders’ Mortgage Insurance (LMI), which could add thousands to your home loan cost. However, it’s possible to borrow more than 80% of a property’s value without paying for LMI if you could get a family member or close friend to guarantee your home loan.
6. Reduce your expenses
Taking steps to reduce your expenses could improve your borrowing capacity in several ways. It can help reduce your debt-to-income ratio and also allow you to save more money for a down payment. Furthermore, reducing your expenses and developing a regular savings habit could demonstrate to lenders that you’re financially responsible and can manage your money well, which could put your home loan application in a positive light.
7. Increase your income
Boosting your income could help you increase your borrowing capacity. Lenders take your income into account while assessing your repayment capacity. Getting a higher-paying job or taking on a second job could thus help you to borrow more by demonstrating to lenders that you have the financial means to repay a larger loan. However, remember that lenders will also consider your employment history and stability, so make sure you have a good employment record before applying for a home loan.
8. Shop around for home loans
Different lenders may have different criteria for assessing your borrowing capacity. Shopping around and comparing deals from multiple lenders could help you find the best deal for you.
9. Get help from a professional
A mortgage broker is a financial expert who can simplify your home loan journey. A broker can help you find a competitive interest rate and also identify areas you can improve to boost your borrowing capacity. A broker may also negotiate with lenders on your behalf to secure you a better interest rate, which could help increase your borrowing capacity.
Best of all, brokers generally provide you with their services for free, and they must act in your best interest as per law. If you need help on your home loan journey, you could connect with one of our verified brokers for an obligation free service.
By Vidhu Bajaj
Hashching Content Writer