Understanding your borrowing power

With interest rates and inflation on the rise, it’s no surprise that many people are feeling less confident about applying for a home loan. If you’re one of them, understanding your borrowing power and getting yourself ‘loan ready’ could be the key to buying your first home – even in the current financial climate.

What is borrowing power?

Your borrowing power (sometimes referred to as ‘borrowing capacity’ or ‘borrowing potential’) is how much you could borrow based on your financial situation.

Your borrowing power is based on a range of factors such as your income and expenses, your dependents, and any assets or outstanding debts you might have.

Is this the same as pre-approval?

No. Borrowing power is an estimate of how much you may be able to borrow based on high-level information about your financial situation. Pre-approval, on the other hand, is a conditional agreement by a specific lender for you to borrow an amount of money to buy a property. As well as taking into account the lender-in-question’s credit policy, it will also consider more detailed information about your needs, objectives, and credit history.

How do I calculate my borrowing power?

The quickest and easiest way to get an idea of your borrowing power is by using an online calculator.

It is important to note that the results will be an estimate only. Online calculators aren’t based on detailed information and may use assumptions not relevant to your situation.

What can I do to get myself loan ready?

1. Save more for your deposit

Clearly the more you have saved for a deposit, the less you will need to borrow. But that’s not the only benefit. Having at least 5% of the purchase price saved opens you up to a range of loan options, whereas 20% means you should be able to avoid paying Lenders' Mortgage Insurance (LMI) on top of mortgage repayments.

Additionally, a consistent saving record proves that you are financially disciplined. Savings also count as an asset, which will work in your favour when it comes to assessing how much you could borrow.

Our clever tools The Boost and The Vault can help you save more for your deposit.

2. Check your credit score

Although your credit score isn’t taken into account when using an online calculator, it certainly will be if you submit a home loan application. Knowing your score in advance will help you determine whether you’re in a strong financial position. It will also give you the chance to correct any mistakes before your credit report is seen by a prospective lender.

You’re entitled to a free copy of your credit report every three months from a Credit Reporting  Bureau (CRB). The CRB must provide the report within 10 days of your request.

The three main Credit Reporting Bureaus in Australia are:

• Equifax (previously known as Veda) – Credit Score | Credit Report | Equifax
• Experian Australia Credit Services - Order Credit Report – Experian Australia
• illion (formerly Dun & Bradstreet) - illion Credit Check - See your credit score and credit report for free.

For more information about how to improve your credit score, click here.

3. Lower your credit card limits

Even if you barely use your credit card, a lender will consider the full amount of its limit as debt against you. For this reason, it’s worth thinking about lowering the limit of any cards you do use and getting rid of any you don’t.

4. Increase your income

Admittedly, this falls into the category of ‘easier said than done’ but increasing your income might not be as difficult as you think. If you’re not in a position to ask for a pay rise (or get a new job), now might be the time to launch that side hustle you’ve been thinking about.

5. Cut your expenses

The other side of the balance sheet! Again, cutting your expenses needn’t feel like a huge sacrifice. Are there any streaming services or gym memberships you don’t use? Can you live without your Friday night takeaway? Chances are there’ll be savings you can make without majorly impacting your lifestyle.

For more expenses-cutting ideas, check out our Thrifty Thursdays tips.

6. Reduce debt

Unsecured debts like credit cards and personal loans are very expensive and can reduce the amount you’re able to borrow. It’s definitely worth trying to reduce your high-interest-rate debts before you apply for a home loan.

So, there you are. Understanding your borrowing power and getting yourself loan ready can make all the difference to securing your dream home. Good luck!