Ten ways to increase your borrowing capacity

Being well prepared will improve your loan finance prospects.

Summary: With interest rates near record lows, the attraction of borrowing funds to finance an investment strategy is clear. Getting finance approval is never a given, but taking the steps outlined below will substantially improve your prospects.
Key take-out: Simply completing your tax returns on time can help your mortgage adviser secure the loan you’re after.
Key beneficiaries: General investors. Category: Investment strategy.

Although gearing can be used for shares, to most Australians gearing is most closely associated with investing in residential property.

Unlike the dramatic reduction in participation in gearing witnessed by wealth managers in the sharemarket over recent years, investors continue to gear into the property market. In fact, for lengthy periods in recent times it has been investors that have been the most active players in the property market as first home buyers recoil from what look like permanently elevated residential prices.

Recent ABS statistics reveal that residential property investors are the biggest single category in the property sector – investors accounted for more than 45% of all new home loans late last year against 44% for ‘upgraders’ and just 11% for first home buyers.

With interest rates stabilising at 50-year lows, the question for some property investors is not should I gear? Rather, it is how can I gear further? The list below has been published by our friends at Australian Property Investor magazine and should be useful to anyone examining the prospect of raising their gearing levels. (Managing Editor James Kirby)

1. Consolidate unsecured debts into your mortgage
Typically, unsecured debts such as personal loans and credit cards have short repayment terms that force you to reduce your debts with expensive monthly repayments. These high repayment levels impact the bank’s ability to repay calculation for your mortgage because unsecured debt limits the amount of uncommitted funds you have available to repay the proposed mortgage.

Mortgage Choice says rolling your personal loan or other debts into your mortgage can help your cause because they then won’t show as other financial commitments. However, be warned this will stretch the debt over the life of your home loan term, attracting more interest in the long run.

2. Reduce excess credit, especially credit cards
If you have any unused credit cards or credit cards with limits that exceed your need for credit, then it makes sense to either cancel the limits or reduce the limits down to a manageable level.

When most lenders assess your ability to repay a mortgage, they assume that your credit card will be fully drawn up to its limit.

Given most credit card providers insist that 3% of the debt amount be repaid every month, the unused limits can be detrimental to your mortgage borrowing capacity. Every $1,000 in credit card limits adds $30 per month to your monthly expenses and reduces your ability to borrow.

Canstar Cannex suggests closing all credit card accounts except one.

It may sound extreme but lenders will look at the credit limit on your card or cards as a liability you may have in the future, even if you don’t owe a solitary cent.

For instance, if you have a card with an $8,000 limit and another with a $4,000 limit, a lender will write down $12,000 as a debt against your name. Reducing your credit card limit by $10,000 may increase your calculated monthly disposable income by $300, which has the effect of having a net pay rise of $3,600 per annum.

3. Keep financial records up to date
One of the most common reasons borrowers find themselves well short of their anticipated borrowing levels is that they don’t have up to date financial information to prove their income levels to the lender.

Simply completing your tax returns on time can help your mortgage adviser secure the loan you’re after.

It’s also important to show your overall income to your lender, not just your last two payslips.

In many cases, the last two payslips required by a lender may not give a clear picture of your true income. In the situation where you may have a low base salary but high bonus payments, providing your last two payslips could be a disadvantage. Most lenders will be able to provide an alternative way to assess your income which can be based on the group certificate from your employer or even notice of assessment from the Australian Tax Office.

Concentrating on the bigger picture of annual income rather than the most recent payslips will help.

4. Select the right loan product
Even within one financial institution there can be a big difference in borrowing capacity levels based on the product you select. Product features such as interest-only repayments, fixed rates, variable rate discounts and lines of credit can all impact how much the lender will offer.

5. Be aware that income type is treated differently by nearly every lender
Lenders can be very selective when it comes to the type of income they include in their repayment capacity calculations. Some income types may be excluded altogether by one lender and fully included by another.

Almost every lender treats income derived from dividends, second jobs, child maintenance payments, company profits, bonuses, commissions, government benefits, annuities and rents differently. Navigating your way around this maze is very difficult and every dollar that a lender accepts improves your borrowing capacity.

6. Shop around
It may sound obvious but paying a low interest rate will save you hundreds of dollars on annual loan repayment commitments and thus increase your initial affordability.

A decrease of 1% on your home loan rate may free up your cash flow by $260 a month on a $400,000 loan. This has the same effect of getting a net pay rise of $3,120 per annum.

7. Split your liabilities with your partner
If you’re planning to buy a property under your name only, you can split your expenses on paper with your partner.

For example, two children as dependants may not be counted as your dependants if you can prove that your partner does and will continue to provide for them financially.

8. Use your properties as cross collateral
Using your property as cross collateral, or cross security, means you provide an existing property as a security to buy another property.

It’s increasingly requested by lenders because it minimises their risk of lending money against one single property. In other words, it’s a form of diversification for a lender.

But be warned, there are pros and cons with this strategy.

The good thing is it may increase your serviceability to the extent you may borrow at a higher loan-to-value ratio. This may also save you money on lenders mortgage insurance when you borrow above the lender’s threshold.

The bad thing is, in the event of you being unable to meet the loan repayments, the lender may repossess the securities, which could put your properties at risk.

Another disadvantage with this option is that it can restrict your ability to refinance with another lender, so make sure you understand all the implications.

9. Extend the term of your loan
The longer the loan, the less the monthly repayments.

Thirty-year loans for property are considered normal but not many people realise that you can now get 40-year loans in Australia. Extending your loan term from 30 to 40 years will reduce your monthly repayments by $184 on a $400,000 loan.

There are more than a handful of institutions offering these extended term loans and, in the right circumstances, a 40-year loan can boost loan serviceability.

10. Save, save, save
Build up as much deposit or equity as possible. If you’re using a deposit to secure your loan, be sure to have saved consecutively over at least three to six months, depending on the lender.

Eynas Brodie is the Editor of Australian Property Investor magazine. This article is reproduced with permission. www.apimagazine.com.au

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