How to Lower Your Debt-to-Income Ratio and Get a Leg Up on the Property Ladder

Finance Advice | 20 Dec, 2021

Are you wondering how to get a leg up the property ladder? Lower your debt-to-income ratio. Read on to find out how.

There’s no doubt that house prices are on the rise in Australia. In fact, The Organisation for Economic Co-operation and Development (OECD) reported that Australia had the second-highest mortgage debt in the world in 2020. And ANZ research suggests house prices will be 20% up on the previous year by the end of 2021, while incomes are only rising by 2%.

Record low interest rates have meant that things are still relatively good for Australian borrowers. But as more and more mortgages continue to be written, concerns are starting to rise that perhaps borrowers won’t be able to service this debt if and when economic conditions worsen.

There has been a great deal of chatter in the industry about this topic. The IMF has suggested lending standards should be closely monitored. The RBA has red flagged high credit growth versus income growth. And CBA’s CEO is becoming increasingly concerned with rising housing debt. With foreshadowing from the recent change in the interest rate buffer, increased debt-to-income limits (DTIs) may be the next step from ASIC. And while DTIs will reduce the risk to the Australian financial system, it could also impact on your ability to buy a home.

There is some great news, however. Your personal debt-to-income ratio can be managed by considering the impact of credit card, HECs, car and personal loan debt and borrowings. And by taking steps to lower their impact you can lower your debt-to-income ratio.

Understanding Debt-to-Income Calculations

DTI calculations are one method to safeguard against lending trends that could threaten the viability of the Australian economy. According to the Australian Prudential Regulation Authority (APRA), high DTI ratios are those that are six times your income. APRA also reported that ‘In the June quarter 2021, more than 20% of authorised deposit-taking institutions’ new lending was to borrowers that had borrowed more than 6 times their pre-tax income’.

If we do the math based on the average weekly earnings of Australians (as reported by the ABS in May 2021) of $1,737.10, a 6x DTI would limit the average Australian borrower to just over $500,000. Yet, the median Australian house price in Australia’s capital cities is just under the million mark.

Many lenders have protocols in place that limit how many ‘high’ DTI borrowers they can lend to. And this may mean that ‘average’ Australians will be left out in the cold.

Managing your DTI Ratio

The good news is you can do things to manage and lower your individual debt-to-income ratio to help you buy a home in the long run.

To begin, it’s important to understand that debt-to-income ratio takes into account your total debts and liabilities divided by your gross income. This means all your debts and borrowings ranging from credit cards, HECs, car, personal loans and anything else.

Once you consider each of these debts, if you find that you aren’t in as strong a position as you’d like there are some steps you can take to lower your DTI and help lenders see you as a good borrower candidate.

7 Tips to Lower Your Debt-to-Income Ratio

  1. Increase your debt payments. Paying your debts down more quickly lowers your DTI and shows you have a strong payment ethic.
  2. Avoid taking on more debt. Reduce your use of credit cards and avoid any additional loans until after you’ve secured your home loan financing.
  3. Postpone any large purchases until you’ve saved a significant amount of the payment in cash. Funding less with credit helps you keep your DTI low.
  4. Target debt with the highest ‘bill to balance’ ratio. These are those that will lower your debt-to-income the most for the least amount of cash paid.
  5. Earn extra income by negotiating a higher salary or working on your side hustle.
  6. Refinance your debts with a new lender. Refinancing can help you reduce your repayments and enable you to reduce your debt more quickly over time.
  7. Engage a mortgage broker who can help you understand the best approaches to lower your DTI and gain home loan financing.

Benefits of Lowering Your Debt-to-Income Ratio

Lenders use the DTI calculation to assess your ability to make repayments. Having a low DTI ratio shows that you’re more likely to be on top of repayments for your existing assets.

Of course, this doesn’t mean that lenders expect you to have no existing debts such as car or personal loans. Rather having a lower DTI ratio shows that the debt you do have is manageable and improves your lending options.

DTI ratio is used alongside other metrics by lenders and is considered an important indication of your overall financial health. But most importantly, a lower DTI ratio can make you more attractive to a lender. And that will mean you’re more likely to successfully qualify for a mortgage.

Managing the Process with You

You can proactively managing and lower your debt-to-income ratio by engaging a mortgage broker. Our team can help you find strategies for your personal finance. This can include methods to decrease your DTI ratio, as well as finding a home loan that meets your needs. We work with you to determine what you can afford to borrow, taking into consideration your existing commitment and debt.

Whether there will be DTI limitations on lending remains to be seen. Regardless, the team at Stapleton Finance have the strategies and options to help you get the home of your dreams.

If you’re looking for a trustworthy broker who will get to know you and your unique situation, contact us.

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