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Home loan lending standards are getting tougher in Australia.

New analysis from UBS suggests the maximum borrowing capacity for individual owner-occupier and investor borrowers may have fallen around 10% and 20% respectively since 2015.

If borrowing capacity is reduced, it will likely impact home prices at the top end of Australia’s housing market.

The screws are gradually being tightened in Australia’s mortgage market.

What started out as restrictions investor lending has morphed to interest-only loans. And now it appears to be evolving again with lenders paying closer scrutiny to household expenses and debt already carried by borrowers.

Three-and-half years after this process began, it’s already left its mark on Australia’s property market, especially in Sydney and Melbourne.

Growth in housing credit growth is slowing, sharply so to investors, as APRA’s macroprudential measures bite.

While, from a macro perspective, it reflects that lending standards have and are being tightened, what isn’t well known is how it’s impacted the maximum borrowing capacity for those looking to buy a home.

Given that lending standards are tightening, it’s almost certainly to be lower.

The only question is how much lower?

Jonathan Mott, Research Analyst at UBS, thinks its quite a bit based on archived home loan calculators found on major bank websites.

“By using archived webpages of the major manks we have accessed previous home loan calculators,” he says.

“Using the income-adjusted household expenditure measure (HEM) for each of the major banks, we have attempted to quantify the extent to which borrowing capacity has reduced over time for two examples: an owner-occupier with no existing debt; and an investor with an existing loan.

“Our methodology was to use the major banks’ mortgage calculators to compare the borrowing power for an Owner Occupier and Investment Property borrower today versus the borrowing power from previous years.”

So by accessing old mortgage calculators and comparing to them what’s been spat out today, it provides something of a guesstimate as to how much borrowing capacity has been lowered based on identical gross household income and estimated income-adjusted HEM’s used by lenders.

For the first example tested — an owner-occupier with no existing mortgage debt — the calculators suggest the borrowing capacity has been reduced in the region of 7 to 10%.

“In 2015, an owner-occupier household with $120,000 income, around $36,000 in expenses, a $9,000 car loan and $4,000 credit card limits had a borrowing capacity of around $618,000. This implies a debt-to-income of around 5.3 times,” Mott says.

“Today, that same family now has an assumed living expense of around $41,000. The borrowing capacity is now $571,000 which implies a debt-to-income of around 4.9 times.”

Mott says while only a guide, the maximum borrowing capacity may have been reduced further for customers with higher incomes and larger existing debt facilities.

So, based on what maximum borrowing capacity the calculators provided in the past, lending to owner-occupiers may have been reduced by as much as 10%.

However, under the second scenario tested — an investor with an existing loan — Mott found that borrowing capacity was reduced significantly more.

“We have assumed a family of four, with combined income of $100,000, along with $20,000 bonus and $30,000 rental income. This scenario also includes a $400,000 existing home loan balance. We have also assumed the customer has a $9,000 car loan and $4,000 in credit card limits,” he says.

“In 2015 this customer was estimated to have around $36,000 in living expenses and therefore would have been able to borrow an additional $426,000 for a maximum borrowing capacity of around $838,000 and debt-to-income ratio of 5.6 times.

“In 2018 this customer was estimated to have around $44,000 in living expenses and therefore would be able to borrow an additional $260,000. This reflects a maximum borrowing capacity of around $673,000 and a debt-to-income of 4.5 times.”

In other words, based on what the home loan calculators spat out in 2015 to today, borrowing capacity has been reduced by around 20%.

Mott believes the screws on mortgage lending will continue to tighten in the period ahead, especially with the interim report from Australia’s banking royal commission due to be handed down no later than the end of September.

“Despite the reduction in borrowing capacity that has already occurred, it appears that further tightening is likely to come,” he says.

But rather than for investors, he thinks it’s likely to be most acute for owner-occupiers.

“We estimate that we are around a third of the way through the credit tightening process for owner-occupiers and most of the way through for investors,” he says.

“However, for many investors, especially those with multiple investment properties, limits on very high debt-to-income of more than 6 times, not just serviceability, may become the binding constraint.”

In April, APRA told lenders to develop internal portfolio limits on the proportion of new lending at very high debt-to-income levels, and policy limits on maximum debt-to-income levels for individual borrowers.

“This provides a simple backstop to complement the more complex and detailed serviceability calculation for individual borrowers, and takes into account the total borrowings of an applicant, rather than just the specific loan being applied for,” the regulator said.

With maximum borrowing capacity being reduced and lending to highly leveraged borrowers being curbed, it could potentially weigh on housing markets where prices are at a significant multiple to income levels, such as Sydney and Melbourne.

With borrowing capacity reduced, it could lead to a mismatch between what prospective buyers can afford and what level vendors are looking to transact, especially at the top end of the market, leading to a stalemate until one side can move to meet the other.

Unless income levels increase sharply or lending restrictions eased — both unlikely scenarios — that suggests the risks are that prices could decline further until the gap between the two is met.

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