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Understanding Mortgage Test Rates
Before diving into recent changes, it’s important to understand what a mortgage test rate actually is. In New Zealand’s banking system, a test rate (also called a serviceability rate or assessment rate) is a higher interest rate that banks use to assess whether you can afford a mortgage - not the actual rate you’ll pay.
When you apply for a home loan, banks don’t just check if you can afford repayments at today’s interest rates. Instead, they “stress test” your finances by calculating repayments at a significantly higher rate (typically 2% - 2.50% above current rates). This buffer ensures you could still make repayments if interest rates increase substantially during your loan term.
For example, if mortgage rates are around 5.5%, a bank might assess your application using a test rate of 7.5% or higher. This means your income needs to comfortably cover repayments at this elevated rate, even though your actual repayments will initially be much lower.
Test rates are a key measure required by the Reserve Bank of New Zealand to:
The recent reduction in test rates doesn’t mean banks are becoming less cautious - rather, it reflects changing economic conditions and the Reserve Bank’s confidence that inflation pressures are moderating, allowing for a more balanced approach to lending assessments.
Borrowers Gain Additional Lending Power
The declining test rates across the banking sector have translated into substantial increases in borrowing capacity for homebuyers. Even a slight reduction in test rates can translate to tens of thousands of dollars in additional borrowing capacity.
Nevertheless, the newly implemented debt-to-income (DTI) ratios may act as a constraint for some buyers. These regulations limit household debt to six times annual income for owner-occupiers and seven times for investors.
Despite these limitations, investors may find additional opportunities as test rates decline. With their higher DTI allowance of seven times income, investors can potentially increase their borrowing power beyond what owner-occupiers can access.
This increased borrowing power, coupled with relatively stable property prices, creates favourable conditions for buyers who have been previously excluded from the market.
Final Thoughts
It’s worth noting that while borrowing capacity might increase, responsible lending principles still apply.
Just because you can borrow more doesn’t mean you should stretch yourself to the maximum.
Working with a Mortgage Adviser who can analyse your specific situation across multiple lenders remains the best approach to navigating this changing lending landscape.
A Mortgage Adviser with access to all major banks can:
Ready to Take the Next Step?
With so much variability in test rates, lending criteria and special offers, working with a Mortgage Adviser can be the difference between securing your dream home and missing out on opportunities in this evolving market.
Feel free to reach out to see how these lower test rates might significantly increase your borrowing power and improve your homeownership chances!