Lending changes in practice: what revised lending guidelines could mean for Australian borrowers
It’s been an eventful few months for Australian borrowers and investors, with the national lending market undergoing a number of significant changes. Whilst borrowers were met with news of two consecutive rate cuts from the Reserve Bank of Australia, this was followed by an important announcement from the Australian Prudential Regulation Authority (APRA) who, in early July, confirmed proposed changes to serviceability guidelines for residential mortgages.
Whilst translating into positive news for many Australian borrowers and investors, lenders are continuing to respond in different ways to the revised guidelines and rate cuts, with the impact varying for different individuals. So what exactly are the changes? How could they positively impact borrowers? And what do they look like in practice?
Interest rate cuts – what you need to know
In June and July 2019, the RBA announced two consecutive cuts to official interest rates in response to rising national unemployment rates and weaker inflation levels. The cuts took official interest rates down by 50 basis points from 1.5% to 1% – the lowest level on record.
What this means for borrowers
Lenders have responded in different ways to the official rate cuts, with some following RBA’s recommendations to pass on the cuts in full to their customers whilst others have opted to pass on the rate cuts in part. Whilst initially largely impacting variable loan products, a number of major lenders have also begun passing on interest rate cuts for fixed-rate loans, with some cutting fixed rates by as much as 0.8 percentage points.
Coupled with changes to APRA’s serviceability guidelines, these cuts are enabling some borrowers to take advantage of the low interest rate environment to reduce their monthly repayments and/or secure a more competitive lending product. A recent report from financial comparison site mozo.com.au showed that the average investor principal and interest rate has dropped 35 basis points from 4.76% to 4.41%. For an investor with a $300,000 loan taken out over a 30 year period, this would represent an average saving of $63 per month in interest repayments.
APRA changes – what you need to know
In early July 2019, APRA officially confirmed changes to its serviceability guidelines for residential mortgages following consultation with Australian authorised deposit-taking institutions.
APRA’s previous guidelines required lenders to calculate a borrower’s ability to service a loan using an interest rate buffer that was the maximum of either (1) a floor rate of at least 7 per cent or (2) a buffer of at least 2 per cent above actual interest rates. However, due to the recommendation that lenders should use a buffer ‘comfortably above’ this rate, most lenders were using buffers that were the maximum of either a floor of 7.25 per cent or a buffer of 2.25 per cent above the actual loan interest rate when assessing residential mortgages.
With the general consensus being that these serviceability buffers were unnecessarily high and not reflective firstly of the low interest rate environment and secondly of differential pricing for different types of loans, APRA made the decision to revise its serviceability guidelines, with the three following recommendations:
- The removal of guidance surrounding the 7 per cent floor rate, with banks instead to determine and review their own floor rate.
- An increase in the serviceability buffer to 2.5 per cent.
- The removal of the expectation that lenders should use a buffer ‘comfortably above’ the stipulated 2.5 per cent.
These changes became official in July 2019, with banks now responsible for setting their own floor rate for residential mortgage assessments.
What this means for borrowers
Although impacting borrowers differently depending on their individual situation, their existing debt rates and the policies of their chosen lender (including their revised floor rate), APRA’s new guidelines represent a positive move for many borrowers who have been able to benefit from greater borrowing capacity in the aftermath of the changes.
Whilst the loosening restrictions have helped to reduce a barrier to entry for some buyers looking to enter the market, they have also presented welcome news for many investors who now have the option to refinance or even progress with their investment plans where they have been previously unable to do so due to high serviceability buffers.
Below is just one example of how these changes have helped a Momentum Wealth client leverage greater borrowing capacity to progress with their financial plans.
Case study: Lending changes in practice
Before the changes:
Prior to the review of APRA’s serviceability guidelines, a couple approached Momentum Wealth’s finance team to refinance their principal place of residence.
The clients were repaying their home loan at an interest rate of 4.80% and were looking to refinance to a rate of 3.50% – a move that would save them over $6000 per year in interest repayments. However, despite the low interest rate on offer, the lender assessed the loan at their minimum floor rate of 7.25%; as a result, our pre-qualification showed that the couple failed servicing by $650 per month.
After the changes:
After the introduction of APRA’s reviewed guidelines, our broking team carried out a new pre-qualification to re-assess the couple’s ability to refinance. In this specific scenario, the couple’s lender had followed APRA’s recommendations to remove their previous floor rate (7.25%) and, in accordance with APRA’s new guidelines, adjusted their calculations to assess loans at the highest of either a floor rate of 5.75% or 2.50% above actual rates.
Despite there being no difference in the couple’s personal circumstances, these adjustments resulted in a change of $1422 in monthly serviceability outgoings. As a result of this, the couple now passed servicing by over $770 per month and were able to successfully refinance their loan.
Organise a loan review
Whilst APRA’s revised guidelines represent positive news for many Australian borrowers and investors, the changes will impact everyone differently depending on their individual circumstances.
To find out whether you could benefit from these changes or how they might impact your individual situation, organise a complimentary review of your current lending solution with one of our finance specialists.