Your borrowing capacity, or capability, is a term used by lenders to determine how much you could afford to borrow from them – or more importantly, how much you could afford to pay back.
Whenever you put in an application for a loan, your lender will want to find out about your annual earnings, any financial responsibilities that you need to make and even the status of the current home loan that you are due to repay. The lender will use this information to evaluate how well you’ve been able to meet these commitments in the past and what they may be able to lend.
Your Annual Earnings
One of the most influential factors that a lender will consider when deciding the amount that you may (or may not) be able to borrow, is your annual income. In a nutshell, your income should be able to cater your living expenses AND still have extra to cover the cost of your refinancing loan.
Your Financial Responsibilities
If you already have financial responsibilities and commitments, your lender will undoubtedly want to learn about these as well – especially if they may contribute to you borrowing less. They’ll consider your regular expenses, any child payments, gym memberships, credit cards and other loans.
As tempting as it can be to borrow more and leave yourself with less – don’t push too far, as your way of life may end up taking a hit as a consequence.
Consider using a lenders home loan calculator to give yourself a rough idea of how much you could expect your repayments to be.
Don’t Jump in at the Deep End
One of the most important things that a borrower will need to make sure of is that you will be able to meet your repayments; after all of your expenses and lifestyle costs have been taken into account. Rather than diving in and hoping for the best, be sure to do the research, chat to a mortgage broker and obtain an understanding of the processes that lay ahead of you.
Could Your Equity Affect Your Potential to Refinance?
Yes, in fact if you choose to refinance your current loan, then it’s well worth considering the amount of equity that your property may have accumulated, as this can play a role on the amount that you can borrow from a bank.
Loan-to-Value, or LVR for short, is the amount of money you borrow for a home loan compared to the value of the property and expressed as a percentage. If you have a high LVR then a lender may want to secure their loan and you might find yourself paying LMI, or lenders mortgage insurance, to protect their losses (only applicable if you want to borrow over 80% of your LVR).
If you end up paying double the LMI, then even the most appealing refinancing deal could end up costing you extra as a result.
How Much Equity is Ideal for Refinancing?
Generally speaking, the minimum that a lender will accept is 5% equity, with 95% LVR being the maximum amount that they will be able to lend.
In the majority of cases a lender won’t lend more than 90% LVR – so you will be expected to possess at least 10% equity for your home. It’s worth considering that 80% is a number that most people are comfortable with, as you can usually avoid paying the LMI.
Your equity is a means of assessing the risk of a lending deal and if a lender doesn’t like the look (or doubts the likelihood) or your repayment potential, they may refuse your refinancing altogether.
Can Anything Be Done Without 20% Equity?
Most borrowers will pay insurance to their lenders in the form of LMI. If you wish to proceed with your application without at least 20% equity, then you may find yourself paying LMI twice as you may have paid LMI for your original loan and with the refinance.
This is to safeguard the lender, even though the first LMI plan won’t put the lender at risk because they will already be covered – but it’s an additional way to protect their assets and one that borrowers are considered responsible for.
Are There Any Other Options?
The first thing to do is to calculate how much equity your home has available. This equity will act as your deposit, so if you can collate 20% of the financial value of your home from other means, then this may be accepted by a lender instead.
Credit Representative Number 496186 is authorised under Australian Credit License Number 389328 Disclaimer -This page/article provides general information only and has been prepared without taking into account your objectives, financial situation or needs. We recommend that you consider whether it is appropriate for your circumstances and your full financial situation will need to be reviewed prior to acceptance of any offer or product. Subject to lenders terms and conditions, fees and charges and eligibility criteria apply.