Home loan serviceability: how to know your borrowing capacity

You know you can afford it, so why did the bank say no?

Loan servicing is not as simple as it might seem, and it can vary dramatically from one lender to the next. Most lenders offer borrowing capacity calculators on their websites, but generic calculators can be inaccurate.

Lenders apply various techniques to determine borrowing power. While applicants list actual expenses, lenders usually default to their own minimum benchmarks.

General living expenses

Even if actual living expenses are lower than average, banks assign a minimum living expense benchmark to every application. This covers food, utility bills, fuel, and general day-to-day costs. Someone taking home $3,000 per month after tax with no ongoing liabilities might expect to secure a mortgage with repayments of $3,000 per month, but loan calculations differ significantly.

For example, a lender might assign a minimum living expense of $1,200 to $1,400 for a single adult, leaving $1,800 to service a home loan. This creates a significant difference in borrowing capacity. Lenders also apply different living expense benchmarks for couples and families.

Interest rate buffers

Lenders generally apply an interest rate buffer of 1% to 2% or more when assessing capacity. For instance, if the loan rate is 5.5%, the lender may calculate servicing at 7.5%. This model accounts for potential interest rate increases and fluctuations in day-to-day expenses.

While an interest rate buffer reduces maximum borrowing capacity, it helps ensure long-term loan affordability. Buffers also apply to interest-only loans. An interest-only payment of $1,000 per month may be assessed at around $1,600 per month to reflect principal and interest repayments over a 25-year period.

'I have a credit card, but I never use it'

From a lender's perspective, an unused credit card represents potential debt because it can be used at any time. Lenders calculate liabilities based on total credit limits rather than outstanding balances. Most lenders assess monthly liabilities at 2% to 3% of the limit, meaning a $10,000 limit with a $0 balance represents a $300 monthly commitment. Reducing or closing credit card limits can assist borrowing capacity.

Do you have any deductions?

Deductions on payslips, including salary sacrifice, also affect serviceability. Personal deductions supported by employer verification are usually straightforward, but work-related expenses, vehicle leases, and HECS/HELP debts must be included when determining overall borrowing capacity.

Lender policies vary widely, with niche rules covering company cars or alternative debt assessment methods. A mortgage broker review can help navigate these specific servicing policies across different lenders.