10 tips for your first home loan application

• Understand what lenders want as a home loan applicant and how to improve your eligibility.
• Learn how to compare mortgages online to get the best interest rates.
• Discover ways to improve your finances so as to qualify for a loan.

Investing in the biggest asset you may ever own is a massive life milestone. Find out the ‘need to know’ facts about first home loans, so that you can put your best foot forward and get the lowest possible interest rates combined with other desirable loan features.

Check your eligibility

Before you become emotionally invested in a house, you should check your eligibility for a loan. This will allow you to see what home loan amount you qualify for.

You can do this by contacting loan providers and allowing them to estimate what loan amount you could get – a process known as a home loan pre-approval. It will factor in your current income, expenses, debts, and savings. You can also get rough estimates from online mortgage calculators.

Remember that you can use banks or non-bank lenders. Recently, non-bank lenders have risen in popularity due to less stringent requirements. However, it’s very important to check the legitimacy of non-bank lenders if you choose to use them.

Give lenders the right information

You will need proof of your financial standing and lots of it. Lenders need this to estimate whether or not you can afford to repay your loan, which is a legal requirement under lending rules.

The bank will need several of your payslips and a way to see how long you’ve been employed. If you switch jobs too often, this is a red flag. They want to know that you have enough job security and a stable income.

If you’re self-employed the process differs. Most banks want to see that your business has been successful for two or more years, and will ask you to supply personal tax returns, as well as company returns if applicable, for that period.

Know your options

There are online tools you can use to compare mortgages from different lenders. You will be able to see the differences in interest rates and monthly repayments. You can also easily see how these change for different loan periods, with the typical duration being 25-30 years.

Mortgage calculators will also help you get an estimate of your borrowing power. They factor in your income, debts, expenses, and the type of loan you’re interested in. If you need a ballpark figure, the average Australian home loan size for first-time buyers is $461,244.

Draw up your budget

From the point above you now have an idea of your borrowing power.

However, the mortgage needs to cover many of the other fees associated with purchasing a house. These extra costs include conveyancing fees, legal fees, stamp duty on title transfer, mortgage insurance, removal costs and council/utility rates.

After deducting these, you can see the amount left over for the actual property you want to buy.

Check your credit score

Credit and the resultant debt can last a lifetime. Credit card debt of less than $5,000 can take over 30 years to repay if you only make the minimum repayments. That’s why lenders value your credit score so much. It shows how well you can handle credit and debt.

If you’ve ever been bankrupt or missed any repayments, your score may not be so healthy. If you’ve never had a credit card or loan, and have no credit history, this may also work against you.

You can check your credit score online for free. If your credit score isn’t ideal, just remember it can be improved, by paying off old debts for example. Keep in mind it may take several months to see an improvement.

Understand loan terminology

The most important loan terminology relates to interest rates. There are three main types of interest rate:

• Fixed rate loan. The interest remains fixed for a certain amount of time, usually between one and five years, after which it reverts to a variable rate. This makes it easier to budget during the fixed rate period, but can come with a slightly higher interest rate.
• Variable rate loan. In this case the mortgage provider can change the interest rate at any time. Interest rates often fluctuate in line with the state of the economy and the Reserve Bank cash rate.
• Split loan. This is a combination of the previous two interest rate types. A portion of the loan can be fixed and the other variable.

You will also see the term 'comparison rate'. This is the lender’s advertised interest rate, but adjusted (i.e. notionally increased) to factor in the effect of repaying unavoidable loan fees during the life of the loan. It makes it easier to compare loans with different fee amounts. There is a difference between the comparison rate and interest rate.

An offset account, provided with some loans, helps to reduce your interest costs by using your spare cash to temporarily reduce your home loan principal.

Knowing the terminology helps you understand your options. For instance, you can change loans if another one provides you with a better rate..

Get rid of unnecessary expenses

Renovating your budget and taking an inventory of your expenses is a great place to start when saving for a home loan deposit. Check if you have any subscriptions to services you hardly use. Cancel anything that you haven’t used in more than two months.

You should be very selective with taking on new expenses or making any major purchases. Any money for a frivolous purchase could instead be added to your deposit on the house or used to pay off debt, both of which could increase your chances of getting a better loan.

Set up automatic savings

To get a loan with a decent interest rate you’ll need a substantial deposit. If you are still saving for one it’s important to take the decision factor out of it by automating the process. Every month a portion of your income should automatically be put into a separate savings account.

Have a very clear numerical goal in mind. Estimate the deposit as 20% of the value of the type of property you’re interested in. Split that amount into several months/years, and calculate how much you need to put into your savings account each month.

Have a big deposit

Once you have a large deposit saved, you will have a wider selection of loans available to you. You will be a reliable candidate in the eyes of the mortgage provider, and this will get you a better interest rate.

The minimum deposit requirement is often 20%, and any less (e.g. 5% or 10%) will require you to take out Lender’s Mortgage Insurance (LMI) or find a loan guarantor. These protect the lender in case the borrower can’t make their repayments.

Keep your documents together

Have a folder on your PC with the relevant documentation. This folder should contain proof of identification, proof of employment, and several months’ payslips.

You will need bank statements and tax returns in place of payslips if you’re self-employed. Additionally, you’ll need proof of address. Any bill or bank statement with your address on it will suffice.

If you have a co-signer on your loan, they will also need to provide these documents.

Conclusion

Being highly prepared will reduce the stress surrounding your loan application.

Even if you’re not in a suitable space to take out a loan right away, you now know the steps to take to become an eligible candidate. You will become more adept at the loan process as time goes on. You should always be shopping around for a better rate, even after your mortgage commences.

If you still feel intimidated by the whole process, you can employ a mortgage broker to help you navigate the loan market.