Buying a property is not just about whether you can borrow money from the bank or whether you have a deposit ready to purchase a home. It is much more than that.
Here are the five C’s you need to be aware of when you are trying to get a home loan.
5 Things banks look for before approving your home loan
Character
Your lender wants to understand your personality – your employment history (whether you stay at one job or change jobs frequently) and your appetite for debt; even your address history can tell a lot about you.
One of the main criteria for eligibility is that you earn some kind of income. Banks look at your conditions of employment (PAYG, contractor or casual) and a breakdown of your income (base pay, bonuses, commissions and overtime).
Credit file/report and credit score are two other factors that portray your personality.
A credit report depicts your spending habits – what you purchase, how many credit cards you’ve had over the years and what other debts you have. The new comprehensive credit reporting system (as of July 2018) gives the lender increased visibility into how you manage your finances.
Credit files usually come with a comprehensive score. This is used to predict the likelihood of an adverse event happening in the next 12 months. A high score puts you in a favourable position to borrow. If you have a low score, look for specialised lenders or work your way to increasing your score before you can borrow.
A credit score is actually different to the score mentioned above. Lenders have their own risk calculation system. When an application is submitted to a lender, they assign a point system (both positive and negative) based on various criteria. An example for positive points is job stability and negative points is multiple credit card enquiries within 3 months. Sometimes, it is not even based on your attributes, a low score maybe a reflection of the residential zoning.
For more support around debt, listen to this podcast: Dealing with debt and getting your finances back on track.
Capacity
In my opinion, most single mothers are known to be excellent at budgeting.
Over the last couple of years, there has been an increased focus on a home buyer’s living expense. A few years ago, lenders used to rely upon HEM (Household Expenditure Measure) as a standard benchmark to estimate a borrower’s annual living expense. According to HEM, if you are a single mother, living in a particular suburb, earning $x income, it is expected that you spend $Y every month on bills, groceries, and other household expenses.
Soon they realised that every family unit is different and HEM doesn’t reflect this accurately. Lenders now use your actual living expense for assessment purposes and verification is through your bank statements over a period of time. If you are not a spender, that is excellent because you are really who the banks want to lend money to.
Insider’s tip – Banks always assess your borrowing capacity at a higher rate (up to 2.5% higher than the actual rate), so you won’t struggle to pay if the rates go up in the near future. Actually, some lenders have a higher risk appetite and hence lower their assessment rate, which means you may be able to borrow more with them.
For more support with budgeting, listen to this podcast: Single mum budgeting – Why, how and the tools to use.
Capital
There is no more 100% lending and you really do need to contribute some money towards the purchase. Lenders want some skin in the game and they expect you to save a portion of your income. Think about this scenario – two people earn the same income, live in the same suburb, have the same family situation; one of them saves regularly and has savings whereas the other person has no savings plus multiple credit cards. Who do you think the lender will be comfortable lending to?
That’s why with a 20% deposit, lenders don’t charge LMI (lender’s mortgage insurance). Anything less than that, LMI is charged on a sliding scale.
Did you know? Stamp duty is always the borrower’s contribution. Remember this when you calculate how much savings you will need.
Will the bank approve my home loan?
Collateral
It would be nice if the lenders could lend money without security, but the truth is they have conditions around the kind of property they will accept. An individual house in a zone 1 category will be assessed differently from a unit in the city. Why do they need collateral? Because if you default, they have security to recover the outstanding debt.
Banks usually send a valuer from their panel to confirm the property price, make sure the property is in good condition and to analyse any other risk associated with the property and the market. Lending restrictions apply to specialised properties like high-rise apartments, studio apartments, serviced apartments, units under 40 square metres or rural residential property.
Conditions
This relates to the global, national and local economy, the industry and the lender itself. It is often difficult to say what exactly the lenders take into account when considering a home loan, but they will usually be sensitive to general economic measures, interest rates, the area where your security property is located, and trends within your employment industry.
They use a common-sense approach. If you want to get some money out from your existing loan for a girl’s night out, to gamble, it doesn’t make sense for them to lend you money. On the other hand, if you need money for a renovation, they are more likely to consider the application.
Your loan approval depends on how lenders assess you in each of these five categories. Now that you are aware of the 5C’s of lending, you can prepare yourself before you apply for your next loan. Or get in touch with a good mortgage professional to guide you through your home-buying journey.
