In its half-year financial report last week, Commonwealth Bank provided an update on its home loan assessment process. Overall, borrowing capacity is up.
Since 2014 there have been a series of rule change that have required lenders to tighten serviceability assessments in some areas and allowed them to loosen them in others.
CBA’s loan assessment process works this way:
Income: all income used in a loan application to assess serviceability is verified; A cap of 80 per cent or less is applied to “less stable” income sources, such as rent or bonuses; A cap of 90 per cent is applied to tax-free income, including government benefits; limits are applied to investment income, such as a 4.8 per cent limit on rental yields.
Living expenses: these costs are captured for all loan applicants; servicing calculators use the higher of declared expenses or the Household Expenditure Measure benchmark (the bank says it is working on reducing its reliance on HEM).
Interest rates: CBA assesses an applicant’s ability to pay based on the higher of the loan rate plus a serviceability buffer, which is 2.25 per cent, or a minimum floor rate of 5.4 per cent; interest-only loans are assessed on a principal and interest basis over the residual term of the loan.
Existing debt: all existing customer commitments are verified; transaction statements are reviewed to identify any undisclosed debt; automatic review of CBA personal transaction account and credit report; credit card repayments are calculated at an assessment rate of 3.82 per cent.
Debt-to-income: Once the debt-to-income ratio reaches six times the bank will conduct a risk assessment; there is a debt-to income limit of nine times.
The bank says the impact of its most recent changes has been to increase borrowing capacity. It says most applicants have additional capacity to borrow when their loan is approved.
The average loan size has increased from $325,000 in December 2018 to $340,000 in December last year. Thirty-five per cent of home loan borrowers are ahead with their repayments.
The average loan-to-valuation ratio of the bank’s mortgage portfolio is 53 per cent. At the end of December 4.7 per cent of the portfolio was in negative equity – up from 4.5 per cent a year earlier.
Mortgage underwriting standards have been subject to a lot of change over the past few years – mostly leading to tighter lending criteria but not in all cases.
Last year, APRA removed the 7 per cent interest rate floor (which in effect was 7.25 per cent) and increased the buffer to 2.5 per cent from 2.25 per cent when assessing a home loan application.
The 7 per cent rule had been in place since December 2014, when APRA also introduced the interest rate buffer and the 10 per cent limit on growth in new lending to investors.
In March 2017, APRA said it expected ADIs to limit the flow of new interest-only lending to 30 per cent of new residential mortgage lending.
It also told ADIs to place “strict internal limits” on the volume of interest-only lending at loan-to- valuation ratios above 80 per cent, and “ensure there is strong scrutiny and justification” for interest-only loans at LVRs above 90 per cent.
In April 2018, APRA started to ease the restraints. It removed the investor loan growth benchmark, although the change would only apply to ADIs that had “contained their growth and are able to provide assurance on the strength of their lending standards.”
In December 2018, it removed the interest-only benchmark, again with a caveat that ADIs needed to confirm lending policies and practices that met APRA’s expectations.