This article was originally published on Stuff.co.nz on 29 May 2014
Ever congratulated a friend on their lovely new home, only to have them reply that they only own a couple of the floorboards? Translate that into banking speak, and those floorboards become the homeowner's equity in their property. Add in the Reserve Bank's tinkering aimed at cooling rising house prices, particularly in Auckland, and those floorboards take on an even grander role. They become the centre of the loan-to-value ratio (LVR) that many of us were blissfully unaware of until mid 2013.
What is the LVR?
We all know what happens when we want to buy a property: we go to the bank and tell them how much money we have as a deposit, and what type of property we want, then the bank works out how much they will lend us. The calculation of how much we have (aka how many floorboards we will own) and how much the bank will contribute to the purchase of the property (aka the doors, walls and ceilings etc) is the LVR.
So, as an example, if you want to buy a property worth $500K and you have $100K, then you are borrowing $400K against a property value of $500K (or 80 per cent). A loan for more than 80 per cent of a property's value is defined by the Reserve Bank as 'high LVR'.
"The lower the LVR, the lower the risk the customer has of owing more than the property is worth if house prices fall," explains Shaun Drylie, ASB general manager, product and strategy retail and business banking.
What factors influence the bank's decision?
Banks primarily make their decision on who to lend to and how much they can lend based on the applicant's ability to meet their loan repayments and living expenses. However, another factor in calculating the amount a bank will lend you is the amount of your deposit (also known as equity). In general, banks will look more favourably on customers with larger deposits as these help to demonstrate your commitment to the loan and where applicable, a savings history.
Last year the Reserve Bank went a step further and decided to restrict new lending on high LVR loans (80 per cent or greater) to no more than 10 per cent of a bank's total new lending (the 10 per cent 'speed limit'). This means, if you want to get a home loan, and have less than a 20 per cent deposit, you may find it harder to get one. The key point of the RBNZ 'LVR speed limit' is to reduce the likelihood of financial stress on the New Zealand banking sector should a dramatic fall in house prices occur.
What if you want to borrow more than 80%?
If customers do not have sufficient "cushioning" between what they owe and the value of their property, large reductions in house prices may create widespread financial stress on the economy. You only have to look at the United States during the global financial crisis for a prime example of this.
But banks are still lending to those with less than a 20 per cent deposit, provided certain conditions are met. Those conditions include where the bank is in conjunction with their speed limit and the strength of the customers' ability to service the loan.
Don't forget the bank's overall limit of no more than 10 per cent of new loans being high LVR. That means your approval for a new mortgage could simply come down to how many approvals were made in the queue before you.
"In ASB's case, we have capacity to lend more than 80 per cent of a property's value; it's just that the capacity isn't as great as it once was as due to the Reserve Bank's current restrictions. However, we would encourage those customers with less than a 20 per cent deposit to come and talk to us." Drylie says.
- Talk with your bank about what you want and how you can make it happen. Do this before you start looking for a house.
- Want to top up your current home loan but concerned about LVR? Getting a valuation on your property can help.
Click here to find out more about getting a home loan with ASB.