How to count your worth to get your home loans

Assalamualaikum.

Hello =)

Do you know how much are you worth? In terms of loan value to the bank. This question usually arises to those who are in the bank to obtain loan to buy their house like Bukit OUG condominium. Let’s talk about your debt service ratio (DSR), the calculation which banks use to determine your capacity taking loans versus the amount of money you make on monthly basis.

DSR may differ from bank to bank but bank these days have the most common calculation to calculate and that is :-

Debt service ratio or Debt / Income = or <0.7

The amount of loan instalments paid (for old and new loans) is called debt, calculated on monthly basis and income is one’s nett monthly income (after deduct EPF, Socso and taxes). The total debt (including new loan instalments) divided by total nett monthly income should not exceed 0.7 or (70%).

Many people think the rule of thumb is that monthly loan instalments repayments should not be more than 1 out of 3 of your gross monthly household income. The old practice of calculating front end ratio of debt / income as <0.3 to assess a person’s ability to take a loan. Additionally, the front end ratio, bank uses a back end ratio to calculate new loan instalments which is new debt/income <0.4. For simplicity purposes, many banks nowadays use total ratio (old + new debt) / income < 0.7.

Let’s give you a scenario for better understanding.

Chester has a job as IT manager and has a fixed salary of RM5,300 (after deducting EPF, SOCSO and tax). He just got married and plans to buy a house that’s worth RM400,000. Currently, he is paying RM1,300 for his car loan and his credit card bills that are averaging at RM3,000 per month.

Here comes the main question: can he afford to buy his property? How much loans can he take? Let’s all start calculating his debt service ratio.

His current debt commitment is as follows:

Car loan = RM1,300 per month

Outstanding credit card amount = RM3,000

Banks take a 5% outstanding credit card amounts, to be minimum monthly payments, as such,

Credit card (minimum) instalments = RM3,000 x 0.05 = RM150

His total monthly debt = RM1,300 + RM150 = RM1,450

Now, if you would like to know the maximum housing loan Chester can afford, then here’s what you will need to do:

[debt + (maximum new loan instalments)] / income = 0.7

Maximum new loan instalments = (0.7 x income) – debt

                                                                 = (0.7 x RM5,300) – RM1,450

                                                                 = RM2,260 per month

Assuming Chester only allows to take a 30 year loan at 6% interest rate, an instalment of RM2,260 can allow Chester to take a loan of RM376,950.

As such, if Chester first residential property, he can afford to buy a house his Bukit OUG condominium worth RM400,000 with a 10% down payment and a loan of RM360,000.

Here’s another scenario:

Lionel is a successful engineer and he has invested into several projects. He wished to buy a newly completed SoHo unit at an early bird price, RM400,000. Here’s his portfolio:

Income:

Nett drawn salary = RM8,790

               

Current Debt:

Monthly car loan = RM1,500

Outstanding Credit Card = RM4,000 (Bank takes 5% month = RM200)

Property Portfolio:

Lionel invested into two developer projects, obtain 90% loans with 30 years’ financing at 6% interest per annum. His monthly instalments are as follow:

Property A valued at RM350,000 = RM1,889

Property B valued at RM600,000 = RM3,238

Lionel’s DSR = debt payments/income = (RM1,500 + 200 + 1,889 + 3,238) / 8,790 = 0.78

Lionel’s DSR exceeding 0.7, the maximum value that has been set by most banks to allow him to take loan. Lionel cannot take up any more loans until he paid off his debts or increases his income.

In summary, the key to optimize your property investment is your ability to leverage and obtain more properties.  As for the above scenarios, it is just for illustration purposes. Ultimately, the DSR and other policies that are in place right now differ from bank to bank and also subject to government and Bank Negara ruling every now and then. In order to get better clarity of how it works and optimizing your property investment portfolio, do consult your banker for updated advice and make your own decisions.