There has been considerable media coverage of late dedicated to the US subprime mortgage market and the subsequent "credit crunch" we are witnessing in the world financial markets. The effects of which are being felt by Australian lenders.

With all of this attention on credit, we thought it was a good time to explain to you exactly what it is that Australian lenders look for when assessing you for finance.

When it comes to borrowing money, in the majority of cases we have to deal with lenders.

Lenders by their very nature are risk averse, cautious and conservative. In our experience lenders are most concerned about not losing money. Lenders are always looking for flaws in any application to make sure there are no reasons why your application would be a risk for them. While this is sometimes frustrating to borrowers, it also means we are a lot less likely to see what has happened in the US occur here in Australia.

If a lender detects any risks they do not like, you either don't get the loan or the money comes to you at a premium. Either the lender will reduce the amount of money they will lend you or you will pay a higher price for the money through an inflated interest rate.

At the end of the day when dealing with lenders, it pays to remember that they are more concerned with the possibility of losing money than they are about making it.

I've been in many situations as a Bank Manager, Broker and Mortgage Strategist where clients have come to me after their loan has been declined by a lender and lamented that: "I don't know what the issue is, they've got my property as security they can't lose, they can just sell it!"

Like it or not, lenders are always right, even when they're wrong! The truth is that lenders don't make decisions based on the fact that they can sell a property. That is time consuming, costly and they may be in a situation where they lose money – no lender will want to take that on.

So how do lender's make an assessment on providing credit? The short answer is that each lender assesses risk differently. Not one lender will have the same criteria for assessing credit as another. What's more, they tend to change and tweak their assessment criteria continuously. So the goal-posts are always moving. It's part of our role as Mortgage Strategists to keep abreast of these changes so you don't have to!

However, there are some fundamental reasons lenders may decline an application for finance which are consistent across the board. As an investor, it pays to be aware of them…

1.Arrears and late payment fees on current loan facilities.
From the lender's perspective if your current loans are behind in payments, why would this loan be any different? You signed a loan contract with your current lender that you would pay all repayments on time and would always have sufficient funds to cover loan repayments. You have broken your promise and your contract with your existing lender.

2.Repeated over limit fees on credit card statements
From a lenders perspective this is mismanagement of your funds. If you can't pay your bills on time, or you spend more than is available to you, you are sailing pretty close to the wind. All the lender's have to go on is your credit history. For people with a patchy credit history they are a lot less likely to provide debt. They don't want to take on someone else's debt and then have it turn into their problem.

3.Adverse Credit Ratings
This is very much in line with the two points above, but it is taken to a whole new level. Not only have you not paid your bills, but you have not been in contact with the lender or credit provider to work out a payment plan.

They have now either put your file in the hands of debt collectors and a default is lodged, or they have taken you to court and issued a Judgment,– or worse, you have declared yourself bankrupt!

I was listening to a talk back radio program the other day and they were discussing young people taking on too much debt with no intentions of ever paying the debt back. The solution was very easy for these young people because they would just declare themselves bankrupt and be able to walk away from the debt. I have also had clients tell me that their accountants have recommended this strategy to them.

Let me tell you, this is the worst position you could be in. A bankruptcy stays on your credit file for 7 years and any time you apply for credit it will be raised. Applying for credit could be as simple as applying for a store card, credit card or even a mobile phone!

Imagine that for 7 years you are not able to obtain any finance.

4.Council Rates Notices in arrears
This is very similar to owing the tax department money. As soon as a lender sees a rates notice that is in arrears they will not advance any money. Again, why should they take on someone else's debt? Why should you handle this new loan any better than you have done your council rates?

5. Income Anomalies: Short term employment, casual jobs
The lenders always look at history of income as being the future income you will earn. We look at things in a similar light but we like to look at the positives.

Before a lender commits to offering you their money, they want to be sure you have the capacity to pay it back. This poses a problem to anyone who has recently started in a new position and is still in a probationary period and anyone who has several casual jobs or who has recently started their own business.

There is a term in banking called 'conscionable lending'. What this means is that the lender has an obligation to prove that you have the capacity to pay back the debt. Let's look at a couple of examples:

·You have just started a new job and are still within your probationary period. There is no guarantee that your new employer will keep you on.

·You have been working casually for 6 months. There is no guarantee that the hours you are currently working will be sustained.

·You have just started your own business and at the moment, the income is looking really good and you know you are going to be getting new work coming in. Most new businesses fail within the first 2 years which is why lenders want to see 2 years of business income.

Remember that the lender's first priority is to ensure that they do not lose money. Making money is a secondary consideration! Therefore they will always be very, very conservative.

The impact of all these situations is that you could lose valuable time in having a loan assessed, only to be turned down. It might mean that you miss out on the property that you are interested in.

If you purchase a property without having your finance in place first, you could find that you lose the deposit you have put down, if you have actually entered into a contract (a word of caution – never do that!)

As an investor, you need to have an understanding of the types of things lenders look at when assessing your application. Understanding the way they think means your property investment strategy will be more robust and have less chance of getting derailed once you get to applying for finance.

Let's face it, the truth is that lenders set the rules for the game. Like it or not, they can also change the rules anytime they want. So it pays to know as many of the rules as possible before you start playing!

That's why we always advise investors to start with their finance strategy first, before developing too detailed a property strategy. Your ability to obtain finance will define the type of game you will be allowed to play. So don't be afraid to be totally upfront with your mortgage professional when discussing your financial situation. The more information they have the better armed they will be when going into bat for your team.

Lee Dittmer is an Investment Mortgage Strategist based in our Melbourne office. Lee has over 27 years of experience in the finance industry. She has worked on both sides of the finance game as a Bank Manager and as a Broker and now a Mortgage Strategist. Lee is an active investor and a passionate educator and assists all her clients to maximize their investment potential.

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