Key Takeaways
- Borrowing capacity for investment properties can depend on income, existing debts, living expenses, rental income and lender serviceability policies.
- Reducing certain debts or unnecessary credit limits may support borrowing capacity in some circumstances, although the effect can vary between lenders and borrowers.
- Additional income may contribute to serviceability, but lenders can assess overtime, bonuses, rental income and self-employed earnings differently.
- Potential changes to borrowing capacity should also be considered alongside repayment affordability, investment risk and the effect of taking on additional debt.
Borrowing capacity can become a constraint for property investors even when they have stable income or substantial equity. Existing mortgages, credit limits, household expenses and lender serviceability assumptions may all influence how much additional debt a lender is prepared to consider.
For investors considering another property, understanding these factors before applying can provide a clearer picture of where potential constraints may exist. Speaking with mortgage brokers in Sydney may also help borrowers compare how different lenders assess the same financial position, as lending policies and serviceability calculations can vary.
There is no single method that can guarantee an increase in borrowing power. However, understanding how lenders assess borrowing capacity for investment properties may help investors identify debts, income sources, credit facilities or loan arrangements that could be influencing their position.
What Affects Borrowing Capacity for Investment Properties?
Borrowing capacity is an estimate of how much a lender may be prepared to lend after considering a borrower’s income, expenses, debts and proposed loan under its credit and serviceability policies.
When assessing investment property finance, a lender may consider:
- employment or business income;
- existing home and investment loans;
- expected or existing rental income;
- credit card limits and personal debts;
- household expenses and dependants; and
- the proposed investment loan.
Lenders can apply different policies to these factors. Borrowing capacity for investors may therefore differ between institutions even when the underlying financial position remains the same.
Rental income and serviceability
Rental income can contribute to serviceability, but a lender may recognise less than the full gross amount. This can allow for possible vacancies, expenses or uncertainty associated with rental income. The proportion recognised and supporting evidence required can vary according to lender policy.
Serviceability assessments may also use an interest rate above the rate the borrower expects to pay. For authorised deposit-taking institutions (ADIs), such as banks, the Australian Prudential Regulation Authority (APRA) currently requires a mortgage serviceability buffer of at least 3 percentage points above the applicable loan rate. Non-bank lenders are not necessarily subject to the same APRA requirement and may apply different assessment methodologies.
As a result, actual repayments are only one part of a borrowing-capacity assessment.
1. Review Existing Debts and Credit Limits
Existing liabilities can affect borrowing capacity for investment properties. Depending on the lender, mortgage debt, personal loans, car finance, credit cards and other ongoing commitments may form part of the serviceability assessment.
Review unnecessary credit limits
A credit card with little or no outstanding balance may still affect serviceability. Some lenders can assess the available credit limit or apply an assumed repayment commitment rather than considering only the current balance.
Reviewing whether unused or high credit limits are still required may therefore be worthwhile. However, reducing or closing a credit facility should not be assumed to increase borrowing capacity by a particular amount, as the effect depends on lender methodology and the borrower’s overall financial position.
Consider other personal debt
Car loans, personal loans and other repayments can also affect serviceability. Reducing debt may potentially change an assessment, but using substantial savings to repay a liability can also reduce funds available for a deposit, purchase costs or financial reserves.
The relevant trade-off may therefore include both the potential serviceability effect and the impact on available cash.
2. Understand Which Income a Lender May Recognise
Additional income can potentially support borrowing capacity, but lenders may not treat every income source in the same way.
Overtime, commissions, bonuses, allowances or second-job income may be considered, although a lender could require evidence that the income has been received consistently or recognise only part of it. Treatment can differ according to the type of income, its history and individual lender policy.
For self-employed investors, lenders may consider tax returns, financial statements, notices of assessment or other business information. Documentation requirements and methods used to calculate assessable income can vary between lenders.
3. Review Household Expenses Before Applying
Living expenses form part of a lender’s serviceability assessment. These can include groceries, utilities, transport, insurance, education, entertainment and other regular commitments.
Lenders may assess declared expenses alongside their own expenditure benchmarks or assessment methods. Reviewing recurring spending can help borrowers understand their current position and identify expenses that are no longer required.
However, expenses declared in a loan application should accurately reflect the borrower’s circumstances. Reducing figures reported in an application without a corresponding change in actual spending does not alter the underlying financial position.
4. Review Existing Home Loan Arrangements
Existing mortgages can have a significant effect on serviceability because they form part of the debt position considered when a borrower applies for additional finance.
Borrowers considering refinancing an existing home loan may encounter different rates, repayment arrangements or lender assessment policies. However, refinancing should not be assumed to increase borrowing capacity or produce a more favourable financial outcome.
A refinance involves a new credit assessment and may involve discharge fees, establishment costs or fixed-rate break costs in some circumstances. Moving the loan to another lender also does not remove the underlying debt.
Could extending the loan term help?
A longer loan term can reduce scheduled repayments in some circumstances. Whether this improves assessed borrowing capacity depends on how the relevant lender calculates existing and proposed debt commitments.
Extending a loan term may also increase the period over which interest is paid and could increase the total interest cost over the life of the loan. Any change may therefore need to be considered beyond its possible effect on a serviceability calculation.
5. Understand Equity and Borrowing Capacity
Property equity can potentially contribute towards a deposit or eligible purchase costs for another investment property, but having equity does not automatically mean an investor can borrow more.
Accessing equity normally involves additional borrowing, so a lender would still need to assess whether the resulting debt meets its serviceability and credit requirements.
Investors considering using available home equity may therefore need to consider usable equity and serviceability as separate parts of the lending assessment.
This can be particularly relevant when turning a principal place of residence into an investment property. Retaining the existing property while purchasing another home can change debt commitments, rental income and housing expenses. How these investment property changes affect borrowing capacity may depend on lender policy and individual circumstances.
6. Compare How Lenders Assess Investors
Borrowing capacity is not necessarily identical across lenders. Differences in the treatment of rental income, existing debts, variable earnings, living expenses and investment loans can produce different serviceability outcomes.
An investor who does not meet one lender’s requirements may potentially receive a different assessment elsewhere. However, choosing a lender solely because it provides a higher borrowing figure may overlook interest rates, fees, loan features, eligibility requirements and longer-term flexibility.
Investors planning further purchases may also benefit from understanding how borrowing capacity and equity can interact as a property portfolio develops.
7. Avoid Treating Maximum Borrowing Capacity as a Target
Increasing borrowing capacity and deciding how much to borrow are separate considerations. A lender’s maximum approval reflects its credit assessment and does not determine what level of debt may be manageable for an individual household.
ASIC’s Moneysmart describes borrowing to invest as a high-risk strategy. Property values and rental income can change while loan repayments and other ownership expenses continue.
Investors may therefore choose to consider how repayments and other costs could be managed if interest rates increased, rental income declined or unexpected property expenses arose.
Which Changes Could Make the Biggest Difference?
There is no single change that is likely to increase borrowing capacity for every investor. The main constraint can depend on the individual application and the lender assessing it.
For one borrower, credit limits or personal debt may be significant. For another, existing mortgages, variable income or the lender’s treatment of rental income could have a greater effect.
Identifying the main constraint before making substantial financial changes may help borrowers understand whether reducing cash reserves, restructuring debt or altering loan arrangements is likely to affect the relevant lender’s assessment.
Conclusion
Borrowing capacity for investment properties can be influenced by interconnected factors, including income, existing debts, credit limits, household expenses, rental income and lender serviceability policies.
Reviewing these areas before applying may help investors identify potential constraints. However, borrowing capacity is only one part of the decision. The resulting debt, repayments, costs and ability to manage changing circumstances may also be relevant when considering additional investment finance.
This information is general in nature and does not constitute financial, investment, tax or legal advice. Borrowing capacity, lending eligibility, interest rates, loan features and approval outcomes depend on individual circumstances and lender policies and may change over time. Property investment and borrowing involve risk. Consider obtaining advice from appropriately qualified professionals before making financial, investment, tax or legal decisions.
Frequently Asked Questions (FAQs)
1. How can I increase my borrowing capacity for an investment property?
Potential options may include reviewing existing debts and credit limits, household expenses, assessable income and how different lenders assess the investor’s position. The effect of each change depends on individual circumstances and lender policy.
2. Do credit cards affect borrowing capacity for investors?
They can. Some lenders may consider the available credit limit or an assumed repayment commitment rather than only the outstanding balance. Reducing an unnecessary limit could affect borrowing capacity in some circumstances, although the result can vary.
3. Does rental income increase borrowing capacity?
Rental income may contribute to serviceability, but the full amount may not be recognised. Lenders can apply different assessment policies and may make allowances for vacancy, expenses or uncertainty associated with rental income.
4. Can paying off debt increase investment property borrowing capacity?
Reducing personal loans, car finance or other liabilities could support serviceability in some circumstances. However, using cash to repay debt may also reduce funds available for a deposit, purchase costs or financial reserves.
5. Does refinancing increase borrowing capacity?
Refinancing does not automatically increase borrowing capacity. A different lender may apply another serviceability methodology, but an application remains subject to its credit criteria and assessment of the borrower’s overall financial position.
6. Does having more equity mean I can borrow more?
Not necessarily. Equity may potentially contribute towards a deposit, but accessing it usually involves additional debt. A borrower would still need to satisfy the lender’s serviceability and credit requirements.
7. Should I borrow the maximum amount offered?
A lender’s maximum borrowing figure does not determine what amount may be manageable for a particular borrower. Repayments, possible interest-rate changes, rental income, property expenses and household commitments may also be relevant.