APRA to Loosen Home Loan Rules — Find Out How Much You Could Borrow
By all accounts, the Australian Prudential Regulation Authority (APRA) will soon revise its loan serviceability assessment guidance in a significant way. The minimum interest rate of 7.25% for property borrowers should not be used to assess loan affordability; this is according to their correspondence to authorised deposit institutions (ADIs) being most our banks and lenders.
Since 2014, APRA had been requiring lenders to make sure potential borrowers can service their loan sizes at an interest rate of 7%, with most lenders using a slightly higher test of 7.25% (or above).
The regulator now proposes borrowers be tested for their capacity to meet repayments at the prevailing mortgage rate — currently around 3.75% — plus a buffer of 2.5%.
This change would result in an immediate relaxation in the serviceability test of 1%, from 7.25% to 6.25%. If the RBA also lowered interest rates by another half a percentage point, that would fall to 5.75% — a full 1.5% below the current test.
Under the New Changes, Your Borrowing Power Increases
A model from Independent Mortgage Planners estimates that the proposed APRA changes will boost the average ability of property owners to borrow by around $100,000. The amount differs for borrowers in various household structures.
- Dual income couple with no kids. A married couple with no children and a combined annual income of $160,000 would have the ability to borrow a maximum of $980,000. This represents a $96,000 increase over the $884,000 that the couple could borrow now. If interest rates fall by 50 basis points, the couple’s borrowing power rises to $1,034,000.
- Dual income couple with kids. A married couple with two kids and a combined annual income of $160,000 would have the ability to borrow a maximum of $797,000. This represents a $78,000 increase over the $719,000 that the couple could borrow now. If interest rates fall by 50 basis points, the couple’s borrowing power rises to $841,000.
- Single borrower. Under the new rules, a single borrower bringing in $80,000 per year would be able to borrow a maximum of $55,000 more than under the old guidelines (from a $512,000 max to a $567,000 max). If interest rates are reduced by 50 basis points, this max borrowing power would improve to $598,000.
This model provides a chart divided by household status and borrowing power. All totals assume that the borrower is not overspending on daily essentials and has no major financial debts. The interest rate assumed under the new conditions is 3.75%.
Experts agree that the model works on the assumption that banks respond positively to the APRA proposals.
How Borrowers Are Assessed
The new rules represent a welcome change for borrowers not only because of the increased borrowing caps: other regulations that have been criticised as unfair would also be relaxed.
For instance: Under current guidelines, a borrower who wished to take out a loan at 3.9% would be assessed on their ability to repay that loan at 7.25%. Under the new conditions, this assessment would be based on an interest rate of 6.4%. According to researchers, the lower assessment rate makes sense because interest rates are expected to fall and stay low for quite some time into the future.
Experts believe that the new regulations will increase the chances of the average person to get a mortgage, an achievement that is actually quite difficult for the average person.
There are some balances to lowering interest rates. The Household Expenditure Method (HEM) will also be changed. HEM will be assumed higher for high-income earners. Unreliable income will also be excluded from household income under the new standards. These income types include commissions, overtime pay, and bonus pay.
APRA’s Proposed Revisions to Lending Guidelines
So what are the exact changes to mortgage lending that the APRA is looking to make?
- Borrowers will no longer have to live up to the 7% standard. Known as the floor rate, this represented the lowest rate that a bank would assess you on paper. This rate defined your ability to borrow regardless of the actual interest rate you were actually borrowing under or qualified for.
- The serviceability buffer will increase from 2% to 2.5%. The floor rate that banks use to assess the ability to borrow is a two-variable equation — the minimum interest rate + the serviceability buffer. The increase in the buffer rate helps to protect banks from bad borrowers as the minimum interest rate is lowered.
- Banks are no longer encouraged to use their own buffer rate that is higher than 2.5%. Under current guidance, banks were actually encouraged to use a buffer rate that was higher than the APRA buffer rate. The new rules will not encourage this practice. The result should be that most banks will use 2.5% as a buffer rate instead of a higher rate, making it easier to borrow.
The APRA proposal on mortgage takes Australia’s future financial situation into account as well as the current landscape of difficult borrowing. The previous set of guidance was set around a shakier market just coming off of a worldwide housing recession.
As watchdog agencies begin to agree that these conditions are less prevalent, it is only natural that regulations follow suit. As the new guidance is implemented, we can expect to see a rise in mortgage borrowing from all household types, which is known to spark many other facets of the economy.
The fact that APRA is also allowing the banks to determine their own serviceability requirements as oppose to enforcing one rule for all to abide by will also bring back competition in lending allowing policy niches making broking services more valuable. Borrowers could have significantly different options at various banks and lenders.
Disclaimer: This is general information only and should not be taken as financial advice. Please speak to a Shore financial planning professional before making a decision on your home loan.