A guide to first home loan applicants in Australia

After the recent global economic downturn, the Australian economy has recovered steadily.

Currently, the government and the Reserve Bank are adopting measures for stimulating growth which will be highly favourable to home buyers looking to finance their purchase with the use of a home loan. At the same time, the lending criteria remain strict and 100% finance is no longer the norm as it used to be in the past.

It is natural for Australians to worry whether their income will be sufficient for repaying a home loan and whether their employment is stable enough. Lenders will focus on these and other factors when deciding on whether to grant home loan. The main criterion which has to be met is affordability. The borrow must have sufficient income to repay the home loan given its interest rate, regular payment size and term.

As a home loan applicant, you have to have a precise strategy for qualifying for finance. For starters, you should get a clear idea of how lenders assess mortgage applicants. Use the information and tips provided below to prepare the perfect home loan application and to get the highest chances of approval.

Affordability is the main factor for home loan application assessment. It is determined by three major components. 

1. Home loan interest, fees & term

The cost of the loan, which is based on its interest rate, fees and term, is the main determinant of affordability.

2. Income

The second determinant is the income of the loan applicant. Applicants with higher income have higher chances of approval.

3. Monthly expenditure

The third determinant of affordability is the monthly spending of the applicant. It consists of living costs and existing debt.

Most of the home loan applicants who get rejected have either very high debt or very high spending. When you have little income left after paying all the monthly bills, you will not be able to afford the home loan payments. The other main reason for Australians to get rejected for a home loan is low creditworthiness.

Home buyers who have high income and low expenses will be able to access the most favourable home loans in Australia. These include the ones which offer finance of up to 97% of the purchase price of the property. Lenders use information from the credit reports, pay slips and bank account statements of loan applicants to assess affordability.

Affordability criteria & assessment

The lender bases the affordability evaluation on the gross income earned by the home loan applicant on the income left after covering all expenses. The higher the remaining income is the lower the risk for the lender will be. When the risk for the lender is lower, the applicant's chances of approval are higher.

The cost of the loan plays an extremely important role. When the interest rate is lower, the loan will be more affordable for any applicant. The interest rate on each loan is determined by the cash rate which is set by the Reserve Bank of Australia. The lenders set their mark-up individually for each borrower depending on the level of risk which they assume.

It is important to note that all licensed lenders in Australia are legally required to have a responsible lending policy based on the National Consumer Credit Protection Act 2009. They are allowed to grant a loan only if the applicant has sufficient income to afford the loan's repayment. Otherwise, both parties will assume unnecessarily high risk.

As a home loan applicant, you have to provide detailed relevant information on your income, expenditure and transactions to the lender. This information will be used for the affordability assessment. The lender will determine how much you can afford to pay every month. Then this number will be used for calculating the total loan amount which can be extended to you. The other major determinant of the loan amount is the size of the deposit which you can afford to place. The smaller it is the larger the loan amount has to be and vice verse.

Lenders use specially designed formulas for determining affordability. They focus on your disposable income which you have left after covering all of your debt and living expenses. If your disposable income is higher than the monthly loan payment which you will have to make, then you will have the best chances of approval.

Deposit size

The deposit is your contribution to the purchase price of the property. The remainder is financed by the lender via the home loan. The loan-to-value ratio shows the loan amount as a percentage of the price of the house. A smaller deposit will result in higher loan-to-value ratio (LVR).

When you place a larger deposit, you will be able to borrow a smaller amount of money. This will boost your chances of getting approved. You will be able to save on interest as the rate will be charged on a smaller principal. Besides, since the risk for the lender is lower when the deposit is larger, you may be offered a lower interest rate. Given all this, you should do your best to save as much as possible for the home loan deposit.

Currently, the lenders in Australia do not offer home loans with loan-to-value ratio of 100%. This means that you will have no choice but to place a deposit. The loans with highest LVR offer finance for 97% of the purchase price of the property. The major four banks typically offer loans with maximum LVR of 95%. Most home loans will require a deposit of around 10% of the property price. If you are self-employed or have bad credit history, you may be required to place a deposit of 20% and even 30% of the price of the property.

There are several factors which determine the size of the deposit which the lender will ask you to place. The first factor is the type of loan which you require. If you opt for a building loan or for a low-doc loan, you will have to place a larger deposit.

The individual situation of the applicant is also taken into consideration when the deposit size is determined. Banks often require smaller deposits from existing customers due to the lower risk. Individuals with stable employment income can also access loans with smaller deposits. Those home buyers who are self-employed typically have irregular income. This makes them riskier for lenders and as a result they have to pay larger deposits. Applicants with lower credit score will typically be required to place larger deposit as well.

The price of the property which the applicant plans to purchase is a major determinant of the deposit size as well. More expensive properties usually require larger deposits and vice versa.

Rate of approval

The home loan approval rate in Australia increased by around 13% on an annual basis during the first quarter of 2014. Still, you can expect it to vary from one lender to another. What you should know is that home finance is readily available and the current interest rates and conditions are favourable for home loan applicants.

In order to ensure that you will get approved for a home loan, you need to increase your disposable income as much as possible. You have to adopt an effective strategy for debt reduction. You should also consider ways for increasing the income which you earn. You need to have a savings plan which will enable you to place a deposit of at least 10%.

You should be excellently prepared for obtaining a home loan in Australia. You need to set precise income and deposit goals for yourself and determine the plan and timeline for their achievement. With discipline and determination, you will get where you want to be. You will become a proud homeowner sooner without any hassle.