5 home loan rejection reasons

Being knocked back for a home loan application is never a pleasant feeling, and if it’s happened to you, you may be wondering about the common home loan rejection reasons, and what you can do to boost your chances of being approved next time.

Applying for a home loan is a significant step to take, and while there’s nothing like exhilaration of being approved, there is no guarantee that this will happen. Indeed, even if you think you have all your finances in order, you might find that you have been knocked back.

If this happens to you, then don’t despair – there are a number of common home loan rejection reasons, and there is still every chance you may be able to successfully apply in future. Understanding the reasons why you were rejected can be important when it comes to successfully applying down the line.

Why was my home loan application rejected?

There are a number of reasons why a home loan application could be knocked back, and it’s very likely that if you apply unsuccessfully, your banker or mortgage broker will explain why. Nonetheless, in a general sense, a rejection on a home loan application could very well come down to one (or a combination) of the following key factors:

1. a low credit score
2. a low deposit amount
3. a failure to meet serviceability requirements
4. lack of savings
5. an unsuitable loan structure.

1. Low credit score

When you apply for any kind of credit product, including a home loan, banks and lenders will assess your credit score to determine your reliability as a borrower. With a higher credit score, a lender may see you as a trustworthy borrower, and offer you a loan, but with a lower credit score, the reverse can also be true.

If your credit score is too low – indicating a history of defaults, late repayments, too many credit applications or even bankruptcies – a lender may be reluctant to loan you the amount you want, or they may offer you a higher interest rate, to reflect the risk you represent as a borrower. They may even reject your application outright.

2. Low deposit amount

When it comes to a deposit on a property, generally speaking, a lender will require you to have at least 20% saved. You may still be able to purchase a home with a 15%, 10% or even 5% deposit saved, but lenders will view this as risky, and if they are willing to offer you a home loan, you may be required to pay lenders mortgage insurance (LMI). This can add a considerable expense to the cost of setting up your loan.

If the amount you have saved for your deposit is not sufficient to meet your particular lender’s requirements, then your home loan application may be rejected. This may well be the case if other factors are also at play – for example, if the lender is also doubtful of your ability to meet your ongoing repayment obligations for the home loan.

3. Failure to meet serviceability requirements

While you may have a deposit saved for a home loan, banks and lenders will also be interested in your ability to service that loan – in other words, to make ongoing repayments in the months and years down the line.

When you apply for a home loan, banks and lenders will apply a serviceability test, taking into account factors including your income and stability of employment, your living expenses and your other debts and liabilities, as well as any assets you may have. They will also consider repayments at a higher interest rate. This rate is the housing loan rate plus a ‘serviceability buffer’, which is currently (by law) set at 3%. So, hypothetically, if you apply for a loan with a 5.50% advertised interest rate, the lender would test if you can service the loan (make your repayments) at 8.50%.

As interest rates rise and home loans become more expensive, serviceability requirements in Australia continue to tighten, and even if you believe you will be able to make your ongoing repayments, a bank or lender may not necessarily agree.

It may also be the case that your bank or lender would be willing to loan you money to purchase a property, but not the particular property you’ve applied to purchase, if they believe it to be beyond your means to make your loan repayments.

4. Lack of savings

As a component of your ability to repay your home loan, banks and lenders generally like to get a picture of your saving and spending habits. They will look for evidence of consistent saving, in order to convince themselves that you will be able to make your ongoing repayments on your loan, after paying your initial deposit.

For example, if you have been gifted your deposit amount by a family member, but your history of savings shows that you do not generally keep enough in your account to make your required repayments, then a lender may be hesitant to offer you the home loan product that you’ve applied for.

5. Unsuitable loan structure

It may be the case that a lender is unwilling to offer you the type of home loan you want. For example, some lenders offer interest-only home loans, which are loans that only require you to make interest repayments for a certain period of time, before you start paying off the principal of the loan.

These kinds of loans could work out cheaper in the short term for a borrower, but banks and home loan lenders may view them as risky, and may apply tighter lending criteria. Depending on your financial position, a lender may or may not be willing to offer you this type of loan.

How to improve your next home loan application

If you have been rejected for a home loan application, then before you dust yourself off and try again, there are some proactive steps you can take to help get your finances in order and boost your chances of approval next time.

Wait until you’re ready to reapply

Depending on the circumstances in which you were rejected, it may be advisable to wait a while before applying again. Multiple credit applications in a short space of time can be reflected on your credit report, and can lower your credit score, making lenders more wary of loaning you money as they may perceive you as more of a risk.

While you may find that a different lender will approve your application after you are knocked back once, there is no guarantee. While the decision about whether to apply again right away will come down to your needs and the lender in question, it may be prudent to wait until your financial position is more favourable.

Work on fixing up your credit score

If your home loan application was rejected due to a poor credit score, then there are a number of steps you could take that may boost your credit score, to make yourself more appealing to lenders next time. Canstar has a rundown of some steps you can take to fix your credit score, but in brief, it is important to be conscious to:

• Pay any bills on time
• Pay existing loans and debts on time
• Think carefully before applying for any new credit products
• Only hold on to credit cards you can manage
• Check your credit report for inaccuracies

Keep in mind that it can take two to five years to fix your credit score in many cases, and up to seven in more extreme instances.

Understand your borrowing power

Your borrowing power is the amount of money you can afford to borrow from a lender. It is sometimes said that your borrowing power is a multiple of your salary, but there are actually multiple factors that go into determining it, including such considerations as your assets, liabilities, debts and your spending habits as well as the size of your deposit.

Canstar has a borrowing power calculator that you can use to get a picture of how much you might potentially be able to borrow for a home loan based on your income and expenses. Understanding your borrowing power can be important when it comes to applying for home loans, to make sure you are applying for a property within your price range.

Establish a pattern of saving

As mentioned, banks and lenders will look at your history of saving when you apply for a home loan, and if you can demonstrate a consistent pattern of saving, they may see you as less risky and be more likely to loan you money.

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