How Your Credit Card Limit Could Kill Your Home Loan Application

January 11, 2021
How to Improve Your Credit Score

You need a credit card to build your credit score and show the banks that you’re capable and responsible with money. But that same credit card could also stop you from getting approved for a home loan – and not in the way that you’re thinking.

Here’s the thing about credit cards: they can be a really useful way to build your credit profile. Some even use their credit cards for their mortgage repayments.

If you’re disciplined, keep your credit limit low and pay off the balance in full on a regular basis, it means you’re managing your credit card well and that adds positive links to the chain in your credit profile.

This definitely works in your favour when you’re ready to apply for a home loan, because a strong credit profile boosts your appeal in the eyes of the bank.

The problem is, most of us are not disciplined.

We overspend, we rack up tons of money on restaurants and Ubers and shopping, and we don’t always pay the balance off in full, so we fork out hundreds of dollars per year (if not more) in credit card interest.

This type of credit card management bodes less well for you when it comes to how the banks view you and your relationship with money.

There’s another interesting little quirk about credit cards that many people don’t realise: your credit card can actually impact your borrowing power, which is the amount of money the bank is willing to lend you, when you apply for a home loan.

How your credit card impacts your loan application

The bank or lender will look at your overall credit limit, not just the amount of outstanding debt, when it reviews your liabilities.

Let’s say you have three credit cards: a Visa with a $6,000 limit, an Amex with an $8,000 limit, and a $6,000 Harvey Norman store card you used to buy some furniture with a few years ago at 0% interest.

In total, you have $20,000 worth of credit available on your credit cards, combined.

When the bank assesses your loan application, it will assume that you have spent every single cent of that $20,000 limit. Why? Because it’s available to you, and at any moment, you could do just that.

The lender has no way of knowing whether you will pop into Harvey Normal for a new sofa tomorrow, or go shopping this weekend and charge a $5,000 designer handbag to your Amex, or have an emergency that you solve with fantastic plastic.

According to the bank, you have up to $20,000 to spend on those cards, and it assumes you’re going to spend it. It doesn’t matter if the actual amount of debt on those cards is only $5,000 or $500, or even zero – the lender is going to consider that you owe $20,000 in credit card debt on your loan application.

Most banks assume a repayment of around 3% of your credit card debt each month, which means they add $600 per month to your expenses for a $20,000 credit card limit.

Remember – this gets added to your balance sheet, even if you have zero debt against your cards.

What the bank is doing is making sure that if you chock your credit cards up to the max, you’ll still be able to afford your mortgage repayments. It’s a form of responsible lending on its behalf and as annoying as it may seem, it’s actually in your best interest.

However if you have bad credit due to missed or late payments, there are options available that can help you get (or increase) a credit card limit.

To strike the balance between getting enough personal debt to build your credit profile and not impacting your borrowing power, there are a few things you can do:

  • Reduce your credit limits on your cards to the minimum amount you’re comfortable with. Every $1,000 worth of credit card limit adds $30 per month to your expenses, according to the bank.
  • Use your credit card only to pay bills and expenses on direct debit, then pay it off in full each month. For all discretionary spending – restaurants, coffee, Uber, online shopping, gifts etc – use a Visa debit card that accesses your own money, so you don’t overspend.
  • If your credit card debt is quite high, work on paying it off as a priority; start with the smallest balance and as soon as it’s paid off, cancel the card.

If you have a few credit cards, consolidate all of them to one card and cancel the other accounts. Try to find a 0% balance transfer to save on interest, then work on paying it off as quickly as possible.

Sarah Megginson
Sarah Megginson is senior editor of home loans for Finder. She was previously managing editor of Australian Broker magazine, Your Investment Property magazine and online home loan comparison site, Your Mortgage. Sarah has worked as a finance and property journalist for more than 15 years.
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