What can I afford?

Unless you’re a cash buyer, how much you can afford to spend on a property will always come down in part to how much you can borrow. So how does a lender work that out? And how do you figure out what kind of loan you can comfortably repay?

Most of us need a home loan in order to buy a property. So buying a property not only involves the hard work of saving a deposit, but also finding room in your existing budget to make ongoing home loan repayments.

So how can you work out what you can afford?

Balance income and expenses

In simple terms: what you can afford depends on what you currently earn and what you spend. It’s about assessing your incoming versus outgoing money.

So your first step in working out what you can afford should always be to draw up a realistic budget showing what money is coming in and what will still need to go out once you take out your home loan. Don’t forget to include existing loans, credit cards and other debts.

Use a ‘How much can I borrow’ calculator

You can use an online borrowing calculator to give you an indication of what you may be able to borrow.

A borrowing power calculator will ask you to enter sources of income, as well as all your expenses and then give you an idea of how much a lender thinks you may be able to borrow. 

How your credit score affects your borrowing power

But how much you can borrow doesn’t simply come down to what you earn and what you spend. It is also affected by your credit score or credit rating. This is based, in part, on your history of paying back other loans and bills, as well as how many times in the past you’ve applied for credit. It also takes into account whether you have defaulted on a loan or have any debt-related judgments against you (like bankruptcy).

When they’re considering how much you can borrow, a lender will also factor in your access to any other credit – such as personal loans, home loans and even credit cards, even if you don’t owe anything on them. That’s because they need to factor your need to meet these potential repayments into your capacity to repay a home loan.

Remember to factor in interest rates

Another factor that will impact on how much you can borrow is interest rates. The lower the interest rate, the cheaper it is to service a loan and, generally, the more you’ll be able to borrow.

That said, you shouldn’t simply factor your capacity to meet repayments on the current interest rate. You should also factor in your capacity to make your loan repayments if interest rates were to rise.

For example, between 2000 and 2010, the average variable home loan rate was 7.26%. Would you still be able to make repayments comfortably if rates again rose to those levels?

Most lenders will factor in a buffer when they’re calculating your loan approval because they want to be confident you should be able to continue servicing your loan even if interest rates rise. If you’re taking out an interest only loan, chances are they will still factor in the buffer based on your ability to pay back both principal and interest.

The bigger your deposit, the more you can afford

What you can afford will depend on how much money you have to use as well as what you can borrow – so any savings or gifts matter. If you’re selling or using equity in an existing property to pay for the purchase that matters too.

Generally, if you need to borrow more than 80% of the home’s value, a lender will ask you to pay lenders mortgage insurance (LMI), which is an insurance that covers the lender if you are unable to meet your loan obligations. So the cost of paying for this will eat into the amount you have to spend on your new home.

But even if you don’t need to pay LMI, you should still factor costs such as stamp duty, solicitor’s or conveyancer’s fees, removalist costs and account establishment fees into the cost of buying your home.

Taking account of changing circumstances

Finally, when you’re considering how much you can afford, you shouldn’t simply look at your current circumstances but also your future ones. For instance, do you plan to have children soon? Do you or your partner want to return to full-time study. Do you hope to travel extensively? Do you have a new business venture planned?

If so, these will also impact on how much you can afford.

Even if you don’t have any change on the horizon, you should also plan for any worst case scenarios that could hit: what happens if you or your partner can’t work or earn money for a period of time. How will you continue to service your home loan?

A good approach is usually to leave a ‘buffer’ of at least a mortgage repayment or two in your savings account, just in case you need it. You may also consider taking out income protection insurance or mortgage protection insurance to help you meet your loan repayments if you’re off work for some time due to illness, accident or trauma.

After all, it’s always better to be enjoying your new home than worrying about how you’re going to pay for it.

Look at conditional approval

The clearest way to know what you can afford is to speak to a lender about conditional approval. Conditional approval is a type of preliminary approval or “pre-approval” from a lender, indicating that you should be approved for a home loan up to a certain dollar limit. Astute Financial Port Macquarie Mortgage Broker will work with you to assess your situation and give you a realistic picture of how much you can borrow.

Contact us

Astute Financial Port Macquarie 0410442936 or [email protected] and www.astutefinancial.com.au/portmacquarie

The information contained in this article is intended to be of a general nature only. It has been prepared without taking into account any person’s objectives, financial situation or needs. Before acting on this information, Astute Financial Port Macquarie recommends that you consider whether it is appropriate for your circumstances. Astute Financial Port Macquarie recommends that you seek independent legal, financial, and taxation advice before acting on any information in this article