So, what is borrowing power?
Your borrowing power is exactly that: a measurement of your ability to borrow funds. Lenders will usually give you an indicative figure based on your current financial circumstances, and most people find out this figure through an online borrowing power calculator offered by many lending institutions. Be wary as these calculators can provide inaccurate indications of your true borrowing power – but more on that later.
Why is borrowing power important?
Knowing your borrowing power can be, well, empowering, as it gives you an idea of what kind of property you should be applying for.
You won’t want to make unaffordable repayments, and lenders don’t want to lend you an unaffordable or irresponsible amount. Especially in the wake of the Royal Banking Commission, where responsible lending was a frequently recurring theme. So, knowing a ballpark figure upfront will help you look at the right properties in the right locations, and save you a lot of heartache.
What goes into calculating my borrowing power?
Knowing the criteria which determines your borrowing power can help you make more informed financial choices. Most online borrowing power calculators will take into account your:
- current loans and liabilities;
- credit cards and their limits; and
- living expenses.
And that’s it. It doesn’t look like much, but this information is enough for a lender to give you a very approximate amount they may be prepared to lend you.
When it comes time for you to apply for a home loan, your lender will assess your financial position and personal circumstances more thoroughly to determine exactly how much they will be prepared to lend you.
At Tic:Toc, we’re committed to lending responsibly. So, we take a comprehensive look at your financials to make sure your loan will be affordable. We also check your credit history, ask about your other assets, and ask a few questions about yourself (and your co-borrower, if you have one). If everything looks good, we’ll give full approval, on the spot. We don’t do pre-approval.
How accurate are borrowing power calculators?
Each lender will calculate it differently, and we can’t speak to all calculators out there. But generally, in addition to the criteria above, there are a few assumptions and a few other factors involved:
- your annual income may be converted to a monthly amount on the assumption there are exactly 52 weeks, or 365 days, in a year. This could inflate your income;
- your before-tax income (gross) may be converted to an after-tax (net) figure. This may not factor in all levies or your personal taxation strategy;
- most people understate their expenses, meaning your borrowing power estimate may be significantly overstated;
- some calculators will use the Household Expenditure Measure by default to calculate your expenses. We speak more about HEM in our summary of the Royal Banking Commission;
- an assessment rate may not be used, meaning your borrowing power may be inflated;
- most calculators are based on the lender’s variable live-in P&I home loan to generate their estimate;
- the term of the loan is typically assumed to be 30 years;
- the repayment frequency (weekly, fortnightly, monthly);
- your annual interest charge may be divided over 12 months. In practice, most lenders will calculate your interest daily and issue a monthly charge;
- fees or charges associated with the loan are usually not taken into account; and
- depending on your stated deposit size and property price, LMI may be factored in.
Is there a difference between borrowing power and borrowing capacity?
You may have heard both of these terms used, but they usually refer to the same thing and are used by the Australian industry interchangeably.
How can I find out my borrowing power?