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How much does a Credit Card affect your lending?

Kiwis like Credit Cards… a lot.  If you’ve got 10 minutes, you could get one online right now (don’t).  And the price for easily-acquired, unsecured debt is usually ~20% p.a.

I know what you’re thinking.  Not me, I’ve got an interest free Credit Card.  Well that interest free period expires soon and a lot of people forget to move the card on.  The simple fact is Credit Cards cost a lot.

Credit Card minimum payments

Typically, Credit Card companies require a minimum payment based on the balance.  Most are around 3% per month meaning that if you owe $5,000, you need to pay $150 the following month.

As a side note, if you don’t pay your minimum payment, it is noted on your credit report for all the banks to see.  Make sure you make these minimum payments no matter what!

Balance vs Limit

Notice that the minimum payment is based on the balance – how much you actually owe – not your maximum limit.  So if you owe $1,000 and have a limit of $5,000, your minimum required payment is approximately $30 (3% of the $1,000).

But when you apply for a mortgage, the bank assumes a minimum payment of 3% of the limit.  Why?  Because the bank has to assume the worst-case scenario.  They have to assume you are going to max-out the Credit Card and you have to be able to afford the Credit Card minimum payment and your mortgage too.

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How much does a Credit Card reduce your ability to buy?

Assume you have a limit of $10,000.  As we now know, the banks calculate a minimum monthly payment of $300 regardless of your actual balance.  But how much mortgage does $300 buy you?

Well, banks calculate the mortgage payments at ~7.5%.  We know they're currently lower than that but the bank wants to know you can afford them when they go up.

A $50,000 mortgage at 7.5% (principal and interest) is around $4,195 per year or $350 per month which is pretty close to that $300 mark.

It turns out that a $43,000 mortgage costs (according to the bank calculator) almost exactly $300 per month which is the equivalent of a $10,000 Credit Card limit.

How can this help you?

Despite Kiwis loving Credit Cards, we often don't have them maxed out either.  As Mortgage Advisers, we often see balances of $4,000 with unused card limits of $20,000.  If the client is a responsible spender, this doesn't affect him or her in their daily life.  But, if that client is struggling to borrow enough, reducing that limit from $20,000 to $5,000 could let them borrow an additional ~$65,000 (as long as their deposit allowed for it).

it doesn't matter if you are buying your first home or your 10th investment property, if you face an Income Hurdle, a very quick fix is to reduce your unused Credit Card limit and make yourself that much more attractive for the banks to lend to.

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