Lender serviceability calculators are usually more conservative than your actual income and expense situation. This is largely due to ‘loadings’ that are applied to your actual expense figure.
While income is treated similarly between lenders, there are usually large differences in the way banks calculate your expenses.
Banks calculate individual components of your expenses, apply loadings to individual components, and then aggregate all the individual expenses to come up with your total assessed expense figure.
Living expenses: this is your day to day living expense. It includes expenses like groceries, food, clothes, child-care, dry-cleaning, etc. It does not include rent or your housing expenses, which are considered separately. Lenders take the higher of your declared living expenses or their minimum living expense. For those that are frugal in their living expenses, unfortunately banks will always include their minimum living expense. Lenders usually have minimum expense figures that apply to your household situation (single, couple, children, etc). Some lenders apply higher living expenses depending on the postcode of where you live. The theory is, if you live in Paddington your expenses are likely to be higher than if you live in Campbelltown.
Rent: If you are renting, lenders will include your rent as an expense. They will not apply any loadings to your rent expense. That is, if renting for $1,500 a month, a $1,500 expense will be included in your calculation.
Existing mortgage/commercial debt: Lenders will include your repayments on any mortgages (investment or owner occupied) into their serviceability calculations. They will do this regardless of whether the debt is self-sustaining and paid for via rental income. Most lenders apply a buffer well above your actual repayment on your existing mortgage repayments. For property investors, mortgage debt buffers is the largest buffers lenders put in place on their mortgage calculator. The justification is that mortgage debt is usually considered risky and subject to change (interest rates, repayment changes). This buffer underpins Australia’s financial stability framework and forms a ‘first line of defence’ for borrowers and lenders in case economic conditions change. Interestingly, this also means that owners of their own homes with mortgages are penalised with loadings in their serviceability calculations, while renters are not.
The vast majority of lender serviceability calculators take about double your actual repayment for any interest only loan. That is, if you are paying $2,000 a month on your existing debts, the lender will include approximately a $4,000 expense in your calculations.
After dissecting different lender calculators, the treatment of mortgage expenses is usually the single largest differences between ‘high serviceability’ lenders for property investors and ‘conservative serviceability’ lenders. There are some serviceability calculators from smaller lenders that will apply no buffers or much smaller buffers than the above. Differing treatments in existing mortgage debt offer property investors scope to ‘swap lenders’ to grow their portfolio. More on this later.
The repayment type on your existing debts will also impact the expense figure used by lenders. Typically, lenders apply a higher assessment rate on interest only debt than principle and interest debt. The longer the interest only period, the higher the assessment rate.
Margin loans and other investment loans are considered in a similar manner.
Credit card limits: Credit cards are treated very harshly. Banks include a 36% annual repayment figure on the credit card limit – regardless of whether you use the card or not. That is, a $10,000 credit card limit will include a $3,600 yearly expense figure into serviceability. One of the most common exercises for clients with marginal borrowing capacity is to close credit cards prior to applying for mortgage finance.