Is now the time to start budgeting more than ever?
Yesterday was a good time to start budgeting! Good news is that you can start at anytime.
When any lender assesses your ability to borrow and afford additional finance, a major factor that needs to be considered with every application is your level of spending to income. To capture affordability as a whole, this means considering what your spending habits are. This includes your general bills and groceries that you are expected to earn, in addition to discretionary spending items.
This is where Household Living Expenditure comes into the picture.
So What Counts As Household Living Expenditure?
HEM (Household Living Expenditure) is considered as all expenses made by those within each household. For the purpose of financial applications, this is excluding financial commitments and payments made for your place of residence (ie: mortgage or rent). Whilst your existing financial commitments and rent are expenses in their natural form, we will be excluding them from HEM.
More specifically, lenders are required to identify the necessities for spending such as food, water and internet. Discretionary spending such as going clubbing or buying additional clothes are also added into the mix. The combination of both necessary and additional expenditure comprises of your HEM.
How Is This Calculated By Lenders?
When it comes to quantifying your HEM, there are various standards used by different lenders, leading to each HEM benchmark varying between different lenders. This can lead to applications not meeting affordability based on HEM alone with certain lenders (whereas passing with others due to different HEM criterias).
There are some general rule of thumbs to take note:
1. Every lender will require a reasonable declaration to be made of your overall expenditure. It is worthwhile itemising this in different categories to capture an accurate declaration, such as food, gas, electricity, internet, insurance, etc.
2. Lenders utilise benchmarks based on your marital status and number of dependents (ie: children residing at your place of residence). Some lenders may factor in additional requirements such as income level and postcode location.
3. Bank statements and credit card statements can be utilised by lenders to gauge an accurate picture of your HEM. This can be used to confirm your declared expenditure.
4. Lenders will use the higher of your declared HEM and their benchmark in accordance with their guidelines. This means that a onerously low declaration won’t avoid the lender benchmarking your HEM position as you can see in Scenario 1.1.
Scenario 1.1: Eager to purchase his dream house to reside in, Bob has applied for a mortgage directly through his bank. The property was sold at $500,000 whereby the amount to be borrowed is $450,000. Bob has the minimum amount to fund the 10% deposit + stamp duty through his diligent saving habits and a small contribution from his parents.
About Bob – he is currently residing with his parents and had committed to careful budgeting over the past 2 years. In addition, his parents were responsible for the household bills. Given Bob’s switch to his new living circumstances, his bank will need to factor in his HEM moving forward rather than what he has been budgeting for in the past 2 years. The bank’s HEM benchmarking applies which is significantly higher than what Bob declared in his application after itemising his overall expenditure position.
Are My Bank And Credit Card Statements Safe To Review?
It is worth noting dot point 3 above – if a lender is required to review bank statements your overall banking conduct will be taken into account. Any red flags that are showing in your bank statements will work against you with any finance application and may lead to a subsequent decline. This includes dishonoured payments or insufficient funds available to direct debit payments which generally indicates lack of capacity (or inability to manage finances).
In addition, bank and credit card statement will uncover all forms of expenditure. It is worth declaring your full expenditure position upfront to ensure accurate data is provided. Quite often this is why some lenders will require a breakdown of your various expenditure to ensure an accurate representation has been made on your part. Failing to do so may bring upon Scenario 1.2.
Scenario 1.2: As part of the application process, Bob’s bank reviewed his existing bank statements with them to verify his income and genuine savings. Whilst there was no issues with Bob’s genuine savings from his savings account, Bob’s everyday account showed regular instances of dining out and gambling at his local pub, totaling roughly $200 per week. This discretionary expense was not declared on the application form.
As a result, this added over $800 per month to Bob’s living expenses which his bank had no choice but to factor in their servicing calculation. Whilst Bob’s ability to save over time was deemed as commendable, his bank had no choice but to decline his application due to insufficient affordability relative to Bob’s income.
What About My Marital Status And Children?
The general rule of thumb is the more people residing under your roof, the higher your HEM. This is only natural as there are more mouths to feed and additional utility usage in your home. Because of this, lenders apply additional benchmarking which differs between your martial status and the number of dependents. If you are married or have more kids, your HEM increases as a whole.
An exception is if one of your children is over the age of 18 years. They would no longer be classed as a dependent as they are deemed financially independent. This also goes for additional persons residing at the same address over the age of 18 years.
This position will remain regardless of whether there are additional income earners within the household. Good news is that to capture an accurate household expenditure position, lenders need to also factor in the household income. This means additional income within the household can be utilised to offset your overall HEM.
In a Nutshell
It is true that budgeting is essential to safeguard your financial security which is what lenders like to see. However your HEM shouldn’t be anything to stress over – once you start doing it again and again it becomes clockwork. From there, you don’t feel like it is an additional obligation and future financial applications will be less stressful!
With this said, if you feel that your HEM is higher than it should be, it may be worth looking at your current spending habits overall. To budget accordingly and ensure your financial health is in tact, we recommend consulting a qualified finance broker.