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The True Impact of Borrowing Power vs Interest Rate Increases

 

Back in July 2021, a couple (let’s call them Daryl and Lisa) both aged 36, had two kids under 5, and a total joint income of $148,000 gross.

They held KiwiSaver balances of $80,000, savings of $60,000, and were fortunate enough to have Lisa’s parents gift them $25,000 to assist in buying a home

There were primed, preapproved, and raring to buy a home.

The property markets had just about peaked, asking prices were nothing short of eye-watering, fear of missing out was a significant market driver, and their maximum setting was worked in at a $900,000 purchase price. Their preapproval maximum was established at $740,000.

It took them a good 6 months of focused slog, multiple auctions, then finally purchase and settlement came in December 2021 – success!

Step forward to Aug 2022 – hypothetically, had Daryl and Lisa presented the same settings for preapproval today, their maximum approvable loan would be $602,000, based purely upon their 2021 profile, vs current market settings.

That’s a massive $138,000 (or 18.7%) less than that which was approved a year ago. This translates to a maximum new purchase price of $767,000, or -15.3%

Why? Interest rates.

Banks add a premium to their prime rates and use these as their debt servicing testing rates. Typically 2-3% higher than their prime fixed rates, these are designed to provision for future rate increases.

In Daryl and Lisa’s case, their test rate used last year was 5.80%. Right now, that same rate utilised is 7.95%.

On paper, that effectively means that they would need to fund an additional $15,910 per annum ($740,000 x 2.20%).

Alternatively, to keep the lending the same, they would require income to be circa $172,000 (i.e. +$24,000)

So what does it all mean?

For Daryl & Lisa:

They love the stability and comfort of home-ownership and are no longer looking over their shoulders at their landlords ‘sharpening their knives’ for rent increases, or worse, sale.

They locked in a good slice of their lending for 2 years at 4.10%, so they won’t have to look into the face of the increased market rates for some time yet

Since the initial contract date, their property value has both moved forward and rescinded a little, and is still on par with the purchase price – regardless, they are highly content to be home-owners, along with all the freedoms and responsibilities this creates.

For the general market:

Formalising a preapproval can be tough. Retaining it amidst rising interest rates, even tougher. Pre-approvals are typically only good for 90 days, whereby all numbers are then re-cast, reviewed, and reappraised, all just to enable an extension for a further 3-month period.

All market drivers and filters of late, genuinely seem to have been focused on limiting borrowing and buying power. This is a highly unusual time.

Despite this, almost always, there’s simply no time like the present to get your preapproved ducks in a row – the purchase process often takes well in excess of six months, from whoa to go.

Market changes will always serve up vagaries such as credit appetite tweaks, interest rate volatility, and property market variables. These will all have an impact, but waiting for such uncontrollable factors to be perfectly aligned is a futile strategy.

What can you do?

To shed some light on your current borrowing power, you need the right advice from the right people. At Haven, our friendly mortgage team are experts at walking you through the home buying process. They know the industry and the lenders inside and out and can get your home loan application across the line, doing all of the heavy lifting for you.

Get in touch today to book in a free, no-obligation chat with our mortgage team.

 

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