How to calculate your credit capacity?
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“Understanding your borrowing capacity is essential for investing in real estate”
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Since you will likely use a bank loan to finance your real estate project, you need to understand how to determine the amount that banks will lend you. To do this, we will tell you how to calculate your credit capacity.
Credit Capacity: Definition
Your credit capacity or borrowing capacity corresponds to the amount that a bank is willing to finance for your real estate purchase. The concept of capacity implies that it is an amount you can repay to the bank over a predetermined period of time.
This amount varies according to several criteria:
📈 What is your income (salaries, pensions, received pensions, rental income…)?
📉 What are your recurring expenses (rent, monthly mortgage payments or consumer loans, paid pensions…)?
🏠 What projects are you financing (purchase of a primary residence, secondary residence, rental investment…)?
📊 At what interest rate is the bank lending you?
⏳ How long do you want to borrow for?
The amount you borrow, along with your personal contribution, corresponds to your total envelope to determine the maximum budget for your project.
For example, Michel would like to buy his primary residence. He earns €2,000 net/month and has a personal contribution of €20,000. The current rent is €500/month. The bank offers a 20-year loan at an interest rate of 1.29%.
The credit capacity will be around €140,000. Thus, Michel’s total budget to finance his primary residence will amount to approximately €160,000.
Calculating Credit Capacity in Two Steps
It is difficult to specify a single calculation method, as each bank uses its own method. But we will always give you a way to calculate your credit capacity yourself. The goal is to be able to determine an approximate budget on your own.
This calculation method consists of two steps:
1/ CALCULATE THE MONTHLY PAYMENT
In other words, it is about allocating your recurring expenses based on your recurring income.
📉 Recurring expenses: rent, monthly mortgage payments or consumer rates.
📈 Recurring income: net monthly salaries, pensions, received pensions, rental income.
This rate should not exceed 33%. However, some mortgage loan applications are accepted with higher ratios. For information, the High Council for Financial Stability (HCSF) presented new recommendations on mortgage loans at the end of 2019, which will lead to a tightening of the 33% limit for almost all banking institutions.
To use Michel’s example:
Recurring costs: €500 rent. However, this rent will be replaced by the future monthly payment for the purchase of his primary residence. Therefore, we do not take this into account when calculating.
Recurring income: €2,000 net monthly.
Maximum number of monthly credits/€2,000 = 33%. So a monthly loan of €667 for Michel.
2/DEDUCTION OF THE TOTAL LOAN
A repayment period and an interest rate are applied to this monthly payment. Most online brokers offer you a calculation tool.
In Michel’s case, banks will offer a loan of approximately €140,000 for a monthly payment of €667 over 20 years at an interest rate of 1.29%.
So you know the amount you can borrow.
Knowing this budget is a significant advantage when visiting an apartment or house. You can also receive a credit certificate that states the amount you can borrow. This certificate proves the seriousness of your case when visiting the property.
The ergonimmo team 🏠
Tag : How much to borrow to buy a house?