Is my home loan limit based on salary?

Is my home loan limit based on salary?

When you’re shopping for a home loan lenders may put a limit on how much you’re able to borrow based on multiple factors, with salary being one of them. So, you may ask what my limit for a home loan based on my income is?

You’ve found your dream home and are looking to see if you can get a home loan that covers the purchase. In your research, you may wonder if there’s a limit to how much you can borrow based on your salary.

The answer isn’t set in stone and isn’t a one-size-fits-all answer as there are multiple factors lenders will consider. The limit on how much you can borrow is based on your debt-to-income ratio and ability to repay the debt. And not really any specific loan limits set by lenders. In other words, lenders determine your maximum home loan based on salary, current debts and your ability to repay the loan amount.

How much can I borrow for a mortgage?

Lenders take into account a variety of factors when considering a home loan application from a salaried individual. Your credit history plays an important role, as does your employment history and current income. If you have any recurring debt at the time of your loan application, that will also be considered.

When it comes to the question of how much you can borrow for a mortgage on your current income, the debt-to-income ratio (DTI) takes precedence over all other factors. This metric is used by most lenders to determine your capacity to repay your loan comfortably without any financial hardships and is based on your existing debts and income.

Let’s quickly break down the concept of DTI to better understand it.

DTI is calculated based on the amount of money you earn divided by the total of all your debts or liabilities. These debts and liabilities will include credit cards, existing loans, tax debt, etc.

As an example, you’re a couple who both earn $80,000, which is a household income of $160,000. You’re looking at properties costing about $900,000, with 20% deposit so borrowing $720,000 and you both have $2,000 limits on your credit cards. In this scenario, your combined liabilities include:

  • $720,000 for the new home loan
  • A combined monthly limit of $4,000 on your credit card
  • Total debt: $724,000

Your DTI would be calculated by applying the following formula: $724,000 ÷ $160,000 = 4.53 DTI

What this tells you is that your total debt is 4.53 times the combined income.

How does DTI affect my borrowing limit?

Going back to how much you can borrow for a mortgage based on your income. The answer to this question will largely depend on your DTI, which also includes the expected mortgage payments.

You’ve worked out what your mortgage repayments might be and looked at your current liabilities and think you should be sufficient to repay a mortgage. A lender will look at if your monthly payments, including a new mortgage, push your DTI ratio too high. If this happens, some lenders might be reluctant to approve your loan application. A high DTI is generally over 6 (or 6 times your income) and is considered high risk. Lenders think a DTI above 6 could put you under financial stress if your financial situation were to suddenly change, or if interest rates were to rise drastically. On the other hand, if your debt-to-income ratio is below 6 and falls within the lender’s limits, you’re more likely to be eligible for financing.

Don’t let a high DTI discourage you, since it’s not a rigid measurement. Some lenders are more willing than others to take on riskier borrowers with higher debt ratios. That’s why it is important to research a few lenders and understand your options.

How can I improve my chances of getting a home loan approved?

Your debt-to income-ratio may be the first thing considered during your home loan application. Some lenders also give importance to other living expenses. If you’ve got high living expenses, they may be due to high debts, even unused debts. These can make all the difference between approval or rejection of your home loan application.

As you prepare for your home loan application, go through all your debts and see how you can reduce them and cut them out entirely, especially if you don’t use them. For example, if you’ve got a $2,000 limit on your credit card but you hardly ever use it, consider cancelling the card or reducing your limit. You should also look for other non-essential expenses you can cut down on as well. These may include entertainment subscriptions, going to music festivals or sporting events, costly gym memberships, or even eating out regularly.

How does a lender evaluate my ability to repay the loan?

Lenders are primarily focused on your ability to repay the loan and work this out by considering your current income and debt situation. Your credit history or how you’ve borrowed and repaid debts previously is just as crucial when looking at your capability to repay a home loan.

Lenders will also be interested to know how you managed repayments if you’ve previously purchased a property with a mortgage. Demonstrating that you’ve previously managed large debt repayments, can help some lenders be willing to work with a relatively high debt ratio. This is called a ‘compensating factor’.

It’s not just one factor that determines how much you can borrow, for mortgage lenders take into account multiple factors. And while it’s true that the maximum home loan is based on salary, lenders take into account the debt-to-income ratio and your daily living expenses.

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How much money can I borrow for a home loan?

Tip: You can use RateCity how much can I borrow calculator to get a quick answer.

How much money you can borrow for a home loan will depend on a number of factors including your employment status, your income (and your partner’s income if you are taking out a joint loan), the size of your deposit, your living expenses and any other debt you might hold, including credit cards. 

A good place to start is to work out how much you can afford to make in monthly repayments, factoring in a buffer of at least 2 – 3 per cent to allow for interest rate rises along the way. You’ll also need to factor in additional costs that come with purchasing a property such as stamp duty, legal fees, building inspections, strata or council fees.

If you are planning on renting the property, you can factor in the expected rental income to help offset the mortgage, but again it’s prudent to add a significant buffer to allow for rental management fees, maintenance costs and short periods of no rental income when tenants move out. It’s also wise to factor in changes in personal circumstances – the typical home loan lasts for around 30 years and a lot can happen between now and then.

How can I negotiate a better home loan rate?

Negotiating with your bank can seem like a daunting task but if you have been a loyal customer with plenty of equity built up then you hold more power than you think. It’s highly likely your current lender won’t want to let your business go without a fight so if you do your research and find out what other banks are offering new customers you might be able to negotiate a reduction in interest rate, or a reduction in fees with your existing lender.

How long should I have my mortgage for?

The standard length of a mortgage is between 25-30 years however they can be as long as 40 years and as few as one. There is a benefit to having a shorter mortgage as the faster you pay off the amount you owe, the less you’ll pay your bank in interest.

Of course, shorter mortgages will require higher monthly payments so plug the numbers into a mortgage calculator to find out how many years you can potentially shave off your budget.

For example monthly repayments on a $500,000 over 25 years with an interest rate of 5% are $2923. On the same loan with the same interest rate over 30 years repayments would be $2684 a month. At first blush, the 30 year mortgage sounds great with significantly lower monthly repayments but remember, stretching your loan out by an extra five years will see you hand over $89,396 in interest repayments to your bank.

What is an interest-only loan? How do I work out interest-only loan repayments?

An ‘interest-only’ loan is a loan where the borrower is only required to pay back the interest on the loan. Typically, banks will only let lenders do this for a fixed period of time – often five years – however some lenders will be happy to extend this.

Interest-only loans are popular with investors who aren’t keen on putting a lot of capital into their investment property. It is also a handy feature for people who need to reduce their mortgage repayments for a short period of time while they are travelling overseas, or taking time off to look after a new family member, for example.

While moving on to interest-only will make your monthly repayments cheaper, ultimately, you will end up paying your bank thousands of dollars extra in interest to make up for the time where you weren’t paying off the principal.

What is an investment loan?

An investment loan is a home loan that is taken out to purchase a property purely for investment purposes. This means that the purchaser will not be living in the property but will instead rent it out or simply retain it for purposes of capital growth.

Which mortgage is the best for me?

The best mortgage to suit your needs will vary depending on your individual circumstances. If you want to be mortgage free as soon as possible, consider taking out a mortgage with a shorter term, such as 25 years as opposed to 30 years, and make the highest possible mortgage repayments. You might also want to consider a loan with an offset facility to help reduce costs. Investors, on the other hand, might have different objectives so the choice of loan will differ.

Whether you decide on a fixed or variable interest rate will depend on your own preference for stability in repayment amounts, and flexibility when it comes to features.

If you do not have a deposit or will not be in a financial position to make large repayments right away you may wish to consider asking a parent to be a guarantor or looking at interest only loans. Again, which one of these options suits you best is reliant on many factors and you should seek professional advice if you are unsure which mortgage will suit you best.

What is 'principal and interest'?

‘Principal and interest’ loans are the most common type of home loans on the market. The principal part of the loan is the initial sum lent to the customer and the interest is the money paid on top of this, at the agreed interest rate, until the end of the loan.

By reducing the principal amount, the total of interest charged will also become smaller until eventually the debt is paid off in full.

What is the best interest rate for a mortgage?

The fastest way to find out what the lowest interest rates on the market are is to use a comparison website.

While a low interest rate is highly preferable, it is not the only factor that will determine whether a particular loan is right for you.

Loans with low interest rates can often include hidden catches, such as high fees or a period of low rates which jumps up after the introductory period has ended.

To work out the best value for money, have a look at a loan’s comparison rate and read the fine print to get across all the fees and charges that you could be theoretically charged over the life of the loan.

What is a debt service ratio?

A method of gauging a borrower’s home loan serviceability (ability to afford home loan repayments), the debt service ratio (DSR) is the fraction of an applicant’s income that will need to go towards paying back a loan. The DSR is typically expressed as a percentage, and lenders may decline loans to borrowers with too high a DSR (often over 30 per cent).

Mortgage Calculator, Property Value

An estimate of how much your desired property is worth. 

What do mortgage brokers do?

Mortgage brokers are finance professionals who help borrowers organise home loans with lenders. As such, they act as middlemen between borrowers and lenders.

While bank staff recommend home loan products only from their own employer, brokers are independent, so they can recommend products from a range of institutions.

Brokers need to be accredited with a particular lender to be able to work with that lender. A typical broker will be accredited with anywhere from 10 to 30 lenders – the big four banks, as well as a range of smaller banks, credit unions and non-bank lenders.

As a general rule, brokers don’t charge consumers for their services; instead, they receive commissions from lenders whenever they place a borrower with that institution.

How common are low-deposit home loans?

Low-deposit home loans aren’t as common as they once were, because they’re regarded as relatively risky and the banking regulator (APRA) is trying to reduce risk from the mortgage market.

However, if you do your research, you’ll find there is still a fairly wide selection of banks, credit unions and non-bank lenders that offers low-deposit home loans.

Mortgage Calculator, Loan Term

How long you wish to take to pay off your loan. 

Do other comparison sites offer the same service?

Real Time RatingsTM is the only online system that ranks the home loan market based on your personal borrowing preferences. Until now, home loans have been rated based on outdated data. Our system is unique because it reacts to changes as soon as we update our database.