What is home loan purpose?
A home loan purpose is a declaration from a borrower, made to a lender, as part of a home loan application. A home loan purpose makes clear how the borrower intends using the funds.
Why do borrowers need to declare a home loan purpose?
Apart from the “does it make sense” check lenders need to do for any home loan approval process, there are regulatory and lender-specific reasons for understanding your home loan purpose.
In declaring your home loan purpose, you are telling your lender what you will use the borrowed funds for. This allows the lender to better understand your application, as well as which rules and regulations will apply to the assessment of your loan application.
Why do lenders need to know your home loan purpose?
- Lender requirements
- Regulatory requirements
Lender requirements
Lenders have designed policies and frameworks to cater for different lending purposes. A home loan to build a house will have different features to a loan for a holiday. So, a home loan purpose helps lenders match a suitable product to a borrower, rather than a one size fits all approach.
Lender risk and home loan purpose are closely related. There can be times, usually during economic uncertainty where lenders might increase or decrease activity for different home loan purposes.
Regulatory requirements
Much of the lending activity concerning home loans in Australia is regulated.
APRA is a banking regulator that oversees home loan activity in Australia. Monitoring home loan purpose allows APRA to measure current activity against exposure thresholds they set for the industry to operate within.
ASIC is another regulator that provides guidelines around lending with a view to making it a safe and transparent industry for consumers (borrowers). Be it mum and dad borrowers or small business – different levels of risk and sets of regulations apply to different home loan purposes.
What are the types of home loan purpose?
There are typically two-layers to a home loan purpose declaration:
- What is the money for?
- Is there an investment purpose?
It is up to the lender as to whether the declared home loan purpose will be acceptable to them.
For example, an investment in ASX listed shares is a commonly accepted home loan purpose. This differs to another investment purpose which could be around starting a small business – something not all lenders are equipped to deal with.
Loans for business purposes will often be assessed under a business-specific set of rules. As not all lenders operate have business-lending arms – a mortgage broker can advise on how to approach lending with a business purpose.
Here is a list of home loan purposes commonly accepted by Australian banks:
- Purchase property
- Refinance a home loan
- Maintain or renovate property
- Build
- Purchase land
- Personal investment
- Personal use – holiday
- Purchase non-real estate (e.g. motor vehicle)
Typical scenarios
- A typical home loan purpose is for a borrower to buy a property.
The second layer to this home loan is whether the property will be lived in (an owner-occupier purpose) or rented out (investment purpose). - Another common reason for accessing a home loan could be to fund a wedding or a holiday.
These are clearly not investment purposes.
Ultimately, a home loan purpose will fall into one of two main categories –
owner occupied home loan purpose or investment home loan purpose.
Once a home loan purpose is established, it dovetails into the type of loan products and parameters under which a loan is assessed.
How does purpose affect your home loan?
Home loan purpose can determine your home loan eligibility and ultimately, your home loan options. I explain a few ways I have seen home loan purpose impact a home loan from my mortgage broking experience.
Interest rates
Home loans with an owner occupied purpose generally attract lower interest rates than those with an investment purpose.
It is widely accepted that home loans for owner occupation are less speculative and therefore less risky for banks to be exposed to.
Regulation discourages too many investment loans in the banking system and so one way of controlling the inflow of investment loans is through higher interest rates.
As with many things banking-related, there are exceptions. Investors often choose an interest only strategy for their home loans and this is widely understood by lenders. Home loans with an investment purpose and an interest only repayment strategy often have lower rates than an owner-occupied home loan with the same repayment type.
Loan to value ratio
Lenders use loan to value ratio (LVR) as a useful tool to cap their exposure to different types of lending. Owner occupied loans are considered a lower risk than investment loans, and so lenders are usually willing to approve these loans at higher LVR’s than investments.
Assessment of applications
Home loan assessments by lenders can vary depending on the purpose of the loaned funds.
Buying property with an investment purpose could enable rental income from the new property to be included as part of an application. Whereas buying a property with an owner occupied loan would normally rule out the option of including rental income in any home loan assessment.
Home loan availability
Lenders have products that can suit different home loan purposes. Once a lender understands home loan purpose, they can better meet your needs and objectives.
Whether a type of home loan is accessible to you often boils down to risk. If a lender needs to curb their risk, take the pandemic as an example, we can see restrictions placed on some more speculative-type home loan purposes.
In my experience as a mortgage broker, in times of wider economic uncertainty, home loan purposes involving accessing equity for personal investment have been reduced or suspended.
Key considerations
As a borrower, you need to consider whether the lender you choose is “built” for your lending purpose.
Just as businesses might have a target market, lenders too have their preferences for borrowers and home loan types. You can be better suited to one lender over another. Mortgage brokers exist to help with this type of match-making.
Owner occupied vs Investment home loan
Declaring your home loan purpose did not used to have much of an impact on interest rates and loan options. But since 2014, when APRA recognised some systemic banking risks, lenders have adjusted loan features and accessibility to certain products. Now there are significant differences between an owner occupied vs investment loan.
I have highlighted some of the differences between an owner occupied vs investment loan in the table below.
Does home loan purpose and property need to match?
A commonly misunderstood concept is around property (security) and purpose – they do not usually need to match.
You can borrow for an investment purpose using your owner occupied home.
You can borrow for a personal purpose (wedding) using your investment property.
As there can be significant interest rate implications depending on the home loan purpose, it is important to get this right—so you do not end up paying overs.
Similarly, there can be features you could miss out on if you used an owner occupied home loan for an investment strategy – like interest only repayments.
So, home loan purpose is something you need to get right. This is what mortgage brokers do and I can find one to help you.
Changing home loan purpose
Circumstances change – we should all be used to that now.
Lenders, for the most part, have good processes to change a home loan purpose. In changing your home loan purpose, you will usually need to change your home loan product. That might come with a change in rates – for better or worse.
Letting your lender know a change in home loan purpose is part of the deal with getting a home loan.
Final word
Home loan purpose is there to help lenders and borrowers alike.
Lenders can curate home loan products and assessment policies for certain types of home loan purpose.
Borrowers access products and assessment methods that suit their circumstances.
Getting your home loan purpose and selection right initially, then intermittently revisiting your home loan suitability is key. Ensuring your home loan product and interest rate align with your purpose, means you should also be able to access the product features designed for you to benefit from.
Mortgage brokers are able to match borrowers with lenders to make sure borrowers get the most out of their home loan.
