Why getting a home loan just got tougher

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Getting approved for a home loan is set to get tougher after the banking regulator announced an increase to the minimum interest rate buffer banks use when assessing home loan applications.

Previously, banks had to assess whether an applicant was able to service a loan that was 2.5% higher than the current advertised rate for a given product. Now, that threshold has been lifted to 3%.

The move aims to increase the stability of the banking system, ahead of an inevitable increase in the cash rate.

home loan serviceability buffer mortgage application

"While the banking system is well capitalised and lending standards overall have held up, increases in the share of heavily indebted borrowers, and leverage in the household sector more broadly, mean that medium-term risks to financial stability are building," says APRA Chair Wayne Byres.

"More than one in five new loans approved in the June quarter were at more than six times the borrowers' income, and at an aggregate level the expectation is that housing credit growth will run ahead of household income growth in the period ahead. With the economy expected to bounce back as lockdowns begin to be lifted around the country, the balance of risks is such that stronger serviceability standards are warranted."

Commonwealth Bank was quick to give the change the thumbs up.

"We believe that APRA's announcement to increase the serviceability floor is a sensible and appropriate step to help take some of the heat out of the housing market," Commonwealth Bank chief executive Matt Comyn said in a statement.

"Having increased our floor to 5.25% in June we think this further step will provide additional comfort for borrowers and is a prudent measure for lenders."

APRA forecasts that increasing the buffer by 0.5% will "maximum borrowing capacity for the typical borrower by around 5%".

"The upcoming changes are one of the levers that APRA can use to decrease what they see as risk in the property market," Marcus Roberts, founder of Brighter Finance tells Money.

"During a low interest rate environment, such as we have today, it is important for borrowers to understand not just their actual loan repayments, but what a rise in rates would do to those repayments. This move to increase the assessment rates is in a way replicating that calculation borrowers are doing, to reduce potential financial stress on borrowers in a rising interest rate environment."

"Having increased our floor to 5.25% in June we think this further step will provide additional comfort for borrowers and is a prudent measure for lenders."

The increase to the serviceability buffer is likely to be the first of many measures designed to buttress the financial sector.

Last month treasurer Josh Frydenberg gave the green light for APRA to turn the screws on the housing market.

"We must be mindful of the balance between credit and income growth to prevent the build-up of future risks in the financial system," he said.

"Carefully targeted and timely adjustments are sometimes necessary."

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David Thornton is a journalist at Money magazine and is one of the hosts of the Friends With Money podcast. He previously worked at Your Money, covering market news as producer of Trading Day Live. Before that, he covered business and finance news at The Constant Investor. David holds a Masters of International Relations from the University of Melbourne.