Why do home loans get rejected?

Having a home loan rejected can be incredibly frustrating, especially if you’ve put a lot of time and effort into your application. While different banks use different criteria to assess home loan applications, there are a few common issues that could see your mortgage application rejected:

Poor credit history

If you’ve had money troubles in the past, such as payment defaults, bankruptcy, or even just unpaid bills, a bank may decide that providing you with a home loan is too risky.

While Comprehensive Credit Reporting (CCR) means that positive credit events, such as paying off credit cards and clearing debts, may help improve your credit history, keep in mind that the negative events can stay in your credit file from two to seven years, depending on their severity.

Not enough deposit

Many lenders ask for an up-front deposit of at least 20% of the property’s value, also known as a Loan to Value Ratio (LVR) of 80% or lower.

While some are willing to accept smaller deposits of 10% or even 5%, the less money you can provide as security up front, the less likely your application is to be approved.

It’s also important to keep in mind that even if your 5% or 10% deposit home loan is approved, lenders often require borrowers with deposits smaller than 20% to pay for Lender’s Mortgage Insurance (LMI) to cover the lender’s risk, which can be an expensive additional charge.

Paying too much for an overpriced property

Lenders often plan for the worst-case scenario when assessing home loan applications, calculating whether or not they’d recover their money by selling your property if you were to default on your mortgage repayments.

Because of this, many lenders require a property valuation as part of a home loan application. If it turns out the property is worth much less than the amount you’re asking to borrow, they’re likely to reject your application rather than risk ending up out of pocket if forced to sell.

Loan to income ratio and income stability

When assessing home loan applications, lenders often calculate the mortgage payments and compare them to the borrower’s income. If the repayments would eat up a high percentage of the borrower’s income, they may reject the application rather than put the borrower into mortgage stress.

It’s not just the size of your income either, but the stability. Borrowers who can show they’ve been consistently receiving a salary from their employer for at least two years may be more likely to have their home loans approved. Contractors, casuals, and others with less stable incomes may have a more difficult time, and may need to apply for a low doc loan or go through a specialty lender.

No demonstrated savings

Borrowers who struggle to save the 20% deposit required by many lenders may turn to other sources for the money, such as selling major assets, or accepting generous gifts from relatives and friends. However, simply having a deposit available isn’t always enough for some lenders, who would prefer you demonstrate your financial responsibility by proving you’ve saved this money.

Using a savings account to grow a percentage of your deposit wealth over time can be helpful. Even if you’re gifted with your deposit funds, leaving this money to sit in your savings account for a few months can sometimes help show that you’re responsible enough to save your money, rather than spend it.

Too many debts

If you already owe a significant sum of money to creditors, other lenders may be less willing to risk lending you more money, as they may be concerned that you won’t be able to pay them back.

Consider repaying outstanding personal loans, car loans and credit cards before applying for a home loan. If you have multiple credit cards or lines of credit, it can sometimes be worth cancelling what you don’t need and/or use, as some lenders will assess your ability to repay a home loan under the assumption that you’ll have maxed out your credit cards.  

Too many applications

Each time you apply for any type of credit, from home loans to car loans to credit cards, a record will be kept on your credit history, whether it is approved or not. Making too many loan applications over a short period of time can raise red flags for some lenders, especially if these applications were rejected, as this could indicate a risky borrower.

Rather than sending off applications for every home loan you’re interested in, consider sending just one application to the lender you’re the most confident of being approved by. If it turns out you are rejected, find out why, and take some time to get your finances in order before making your next application.

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