Many people in Australia use negative gearing to build long-term wealth. It is, however, not…
When you apply for finance to purchase a home or investment property, Lenders will assess your application both on the actual interest rate and importantly, their Home Loan Assessment Rate.
It is also applied to both new and most existing borrowings. (An Affordability Margin is also likely to be added to most business type borrowings)
The challenge for borrowers is that, whilst the current actual rates are readily available, this is not the case with Home Loan Assessment Rates
What is a Home Loan Assessment Rate?
Why Lenders use Assessment Rates
The concept behind Home Loan Assessment Rates is to ensure you will be able to afford the loan repayments, in the future should interest rates rise.
Over the past number of years borrowers have had access to finance at what are historically low rates.
The low rates have meant borrowers have been able to borrow more than was the case a decade ago. (This access to historically cheap finance, has been one factor in driving up property prices).
Whilst we may continue to benefit from low rates in the near term, at some point they will rise. Which is why Lenders and APRA use Assessment Rates.
What Home Loan Assessment Rates mean for Borrowers
When a Home Loan Assessment Rate is applied, some applicants may find that their borrowing capacity is significantly reduced.
Although this may be difficult to accept, the goal is to avoid “heartbreak” in the future if interest rates rise and you are unable to make the repayments.
Assessment Rate – Principal and Interest
To show the impact of Assessment Rates I included two different examples below.
In the first the applicant is looking to borrow $800,000 on a principal & interest basis at a current rate of 2.24% over 30 years.
In this case, an Affordability Margin of 3% has been added to the actual interest rate resulting in a Home Loan Assessment Rate of 5.24%
The Home Loan Assessment Rate adds $1,358.79 to the monthly repayments ($16,305.48pa), which the applicant must demonstrate they can afford.
Assessment Rate – Interest Only Loans
Interest Only loans tend to be popular with property investors. However, whilst Lenders are willing to provide an interest only period, borrowers must demonstrate they can afford to repay the loan when the interest only period has expired.
In the following example the Lender is willing to provide an interest only period for a period of 3 years but will then want to see if the borrower can repay the loan over the remaining term of 27 years.
As can be seen, monthly repayments will increase by $2,765.79 ($33,189.48) when the interest only period expires.
Again, the applicant must demonstrate that they can afford these repayments.
When seeking home or property investment finance it is important to consider the extent to which the Home Loan Assessment Rate will affect the amount you can borrow.As stated at the outset, the Assessment Rate is applied to both your existing and proposed borrowings.
It will also be used if you want to refinance or restructure existing borrowings with no actual increase in the total amount borrowed.
If you would like to learn more don’t hesitate to get in touch!