November’s official cash rate announcement came as no surprise with the Reserve Bank of Australia (RBA) presenting a 25 basis points increase, taking the official cash rate to 4.35%. This is the third rate rise since April 2023 and the highest it’s been in almost 12 years. So, what do the numbers really mean for you?
The increase will impact any homeowner with a variable-rate or split home loan, or anyone considering taking out a new loan. But it isn’t only existing mortgage holders and repayments that will be impacted. Potential purchasers will experience a flow-on effect to their borrowing power.
Borrowing power is the amount of money a lender is willing to let you borrow to purchase property. This is also sometimes referred to as your borrowing capacity. The way it is calculated varies depending on the lender, but in general it takes into consideration your income, assets, liabilities, credit score, debts, deposit amount and the value of the property.
Lenders are also expected to apply at least a three-percentage points interest rate serviceability buffer (according to the Australian Prudential Regulation Authority’s guidelines). This means the lender will add at least three percentage points to the current interest rate to calculate repayments and ensure you will be able to meet them, hedging against future rate rises (for example a 4% p.a. interest rate would be raised to 7% p.a. with the serviceability buffer).
When you speak to your finance broker, we calculate your borrowing power across the criteria of several banks and lenders (not just one) to give you an idea of how much you could borrow within a range. The difference from one lender to another can extend to tens of thousands of dollars. This allows you to set a realistic and responsible purchasing budget for you new home or investment property.
When interest rates rise, your borrowing power will usually decrease. This is because the repayments will increase and if your income isn’t also increasing, your ability to service that loan will drop. Let’s have a look at how borrowing capacity can be impacted as interest rates rise.
In this example, Frankie earns $110,000 per year pre-tax with one dependent, no debts or credit card and the average Australian annual expenses of $20,400. For a loan term of 30 years, their borrowing capacity would change depending on the interest rate as follows:
As you can see, an increase of just a quarter of a percentage point makes a huge difference in Frankie’s borrowing power. If the lender passed on the RBA’s full increase in cash rate in its interest rates, which was by 0.25 of a percentage point last month, and Frankie had been considering a loan at 4.75% p.a., the interest rate would have increased to 5.00% p.a. and her borrowing power would have dropped from $631,000 to $614,000 – decreasing their potential offer or bid by $17,000.
Pre-approval is when a lender indicates they are satisfied you meet their criteria to borrow a specified amount. This is very helpful in refining your property search and bidding with confidence. However, something to keep in mind is that pre-approvals are conditional. If your circumstances change or interest rates increase, it could impact your pre-approval. While one increase in the cash rate is unlikely to void your pre-approval, if the cash rate increased three times during the period of your pre-approval (which is usually up to around three months), you may find the amount the lender is willing to lend you has decreased substantially.
If you are starting your home purchasing journey, speak to your finance broker nice and early to establish your options. They will help you source a home loan pre-approval if necessary. Alternatively, if you already have a pre-approval in place, they can establish if or how rate rises may have impacted it’s validity.
The important thing to keep in mind is that increasing interest rates do not mean doom and gloom. We have a panel of over 60 lenders and can find the right one for your needs. There are still competitive deals available, and we can help optimise your borrowing power through a number of steps, primarily matching you with the right lender to suit your situation.
If you’d like to know how much you can borrow from a range of lenders in the current market, so you can set yourself a comfortable purchase budget, please get in touch today. Feel free to text or call me on 0402 023 693 or click on the button below to request a call back.
Published: 15/11/23
THE FINEPRINT: The information provided on this site is on the understanding that it is for illustrative and discussion purposes only. While all care and attention are taken in its preparation any party seeking to rely on its content or otherwise should make their own enquiries and research to ensure its relevance to your specific personal and business requirements and circumstances.
Green Finance Group Pty Ltd ACN 145 035 221 is authorised under LMG Broker Services Pty Ltd ACN 632 405 504 Australian Credit Licence 517192.
I’m an ex-banker and have been working independently as a finance broker for over a decade. My career experience in banking and finance is extensive and includes all aspects of home, personal and small business lending.
Cairns
With access to over 60 lenders and hundreds of home loan products I can provide you with the choice you need to negotiate a better deal on your home, investment, or business loans. Currently assisting clients based in Edge Hill, Edmonton, Bayview, Earlville, Cairns City and surrounding suburbs.
"I’ve been helping local Cairns families and borrowers to get a better deal on their home, investment, car and personal loans for over 20 years. I know exactly what it takes to make the process as hassle-free as possible.”
