Having a personal loan as a first home buyer isn’t uncommon. Many people in their late 20s and early 30s are still repaying student loans. But debts of any type – from student loans, to credit card debit and secured/unsecured personal loans – can all affect your ability to obtain a mortgage. Below we explore how a personal loan can impact the dream of owning a first home.
I have personal loan debt, what are my chances of getting a home loan approved?
A personal loan’s impact on a mortgage application depends on whether you’ve the ability to meet all repayments. A lender will factor your existing loan commitments into your home loan application, and will check to see that you can comfortably afford the mortgage repayments.
Some banks use a calculation called a debt-to-income ratio (DTI). This shows what percentage of your monthly income goes towards debt repayments and household expenses. DTI data is important, as it informs lenders of financial stability risks. Households with higher debt levels relative to their income may be at greater risk of defaulting on mortgage repayments.
Borrowers with higher debt levels relative to their income generally have a higher DTI ratio. The lower your ratio, the better your chances of approval. Unpaid personal loan debt will bump up this ratio, unfortunately. That being said, having personal loan debt likely won’t make or break whether you can get approved for a home loan. Just bear in mind that it will have a negative impact on your serviceability.
So, for any loan, if you intend to borrow an amount that requires repayments of $3000 per month – but after tax and other expenses you have only $3000 per month left over from your salary – your serviceability isn’t looking good. If you’re spending $300 a month paying back personal loans, that’s $300 less you’ll have to put towards your mortgage.
It’s not all bad news
A personal loan can show that you have a positive repayment history and a solid commitment to reducing/managing debt.
If you are meeting your repayments month to month, you can improve your credit score. A good credit score tells a lender you’re a borrower who can be trusted. In turn, this could improve your chances of getting your home loan approved. Read more on this in our story: How a Credit Score Impacts Your Ability to Get a Home Loan.
This is especially relevant if, before taking out your personal loan, you had no real credit history. Because if you don’t have a credit history, it can be harder for a bank to assess how risky you are as a borrower.
In a scenario like this, having been approved for a personal loan, and having managed the debt and paid it back, is a benefit.
How can I increase my chances of getting approved for a home loan?
Keep your debt under control
Any personal debt will impact the amount the bank will lend you for a home. Pay off car and personal loans as much as possible before applying for a mortgage. Most importantly, make your repayments on time! A word of warning on credit cards: if you owe money on them, it goes without saying to pay off as much as you can before starting any home loan discussions.
Also be mindful that your credit card limit can work against you. Say, for instance, you have two cards, each with a limit of $10,000. Even if you don’t owe a cent on either card, the bank will view that as a possible debt of $20,000 that you may have to repay in the future. This can reduce your borrowing power.
To get around this, close any credit card accounts you don’t need and lower the limit on your remaining card.
Have a written budget
Financial institutions like to know how you spend your income. So put together a comprehensive written budget. Having a written budget ready for your home loan application shows you have the financial capability to meet mortgage payments, even with bumps along the road.
The easiest way to get it right is to print out three months of bank statements and look through them to see where your money goes. While you might get a shock, it will probably also open your eyes to unnecessary purchases and push you to save more money. In turn, this will help you to create a regular savings history.
When putting your budget together, don’t forget to include annual expenses, such as insurances and car registration.
Have a healthy house deposit
It goes without saying, the greater the size of your deposit, the easier it will be for you to impress the financial institution. For the best mortgage rates, you’ll need a 20% deposit. But don’t despair, it is possible to get a foot on the property ladder with a smaller deposit. Check out our story: From Flatting to Buying a First Home: A Complete Guide for a more detailed look into deposits.
Avoid new credit applications
Don’t go overboard and apply for too much credit. Don’t let a lender think you’re desperate for credit or financially irresponsible.
The moral of the story
Personal loan debt can both help and hinder a first home buyer. The moral here, always be mindful of how much debt you take on. Debt management is key when it comes to applying for home loans.
Personal loan repayments will be taken into account when you sit down with your lender to work out what you can afford. But if you’ve a proven ability that you can repay your debt, you’ve got a good credit history, and a lender can see you have room to repay both loans, you’ll be on the right track.
If you’re a first home buyer and are looking to get the ball rolling securing finance, Canstar can help. Each year we review mortgage lenders and their products. To read our report for free, just click this link. Or to compare current mortgage rates and lenders with our comparison tool, just click on the big button below!
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