how much to borrow

When it comes to borrowing to purchase property, be it for a home to live in or for an investment I feel that most clients ask the wrong question, which is "How much can I borrow?".

I think what clients should be asking is "How much should I borrow?".

There is a big difference between the two because if you stop and think about it - people should only borrow what they can really afford not what the banks' standard formula comes up with, which uses your current income, your it expenses and applies it to the current interest rates with a little buffer and presto! the clients are given a loan.

I then look at the statistics of the record number loans going bad and ask "Why were these clients given the loan in the first place?" It is possible that most clients can't afford the loan in the first place.

Let's take a young couple that are renting at say $300 per week. Everyone is telling them that "rent money is dead money" so they decide to do what everyone tells them what to do which is to buy a home. So they do the right thing and borrow say $400,000 and buy their new home. Now let's look at their situation: if the interest rate is say 6.5% then their interest repayments will be around $500 per week - that's $200 more than what their rent was and of course this does not take into account the extra they need to pay against the capital. They are already feeling the financial pressure because they not only have to find he extra $200 but they also have to find extra funds to repay some of the capital. And what happens if the interest rates go up? more pressure.

And all because they asked the wrong question of "how much can I borrow?".

If on the other hand, they asked me "how much should we borrow?" then my answer would be "not more than $250,000". Why? because the interest repayments on $250,00 would be equal to that of their rent. And if they can't buy a house with that price then they should keep renting for a little longer and save "like crazy" until they have accumulated large enough deposit that will not put them in financial pressure by changing their rent for interest repayments. There is no law that says you must own a home or an investment property. You should only own a home or an investment property if you can afford it.

So if in the future you are thinking to buy a home or an investment property - remember to ask "How much should I borrow?" NOT "How much can I borrow?" By asking the wrong question you can get yourself in financial trouble.

My business is "financial advice" - so feel free to ask. Spending few dollars on good advice upfront can save you thousands of unnecessary costs later.