The other day I was chatting with my friend about the Higher Education Contribution Scheme/Higher Education Loan Program (HECS/HELP) debt. My friend didn’t realise that having a HECS/ HELP debt could potentially reduce her borrowing power when it came to getting a home loan. A couple of days later, another friend told me they got a rude shock when they found out their borrowing power was reduced by almost $50,000 because of their HECS/HELP debt.
I realised that this information is not widely known and decided I should write this article to share some knowledge about the topic. As strange as it sounds, having a HECS/HELP debt does indeed have the potential to impact your borrowing power. Let me break it down for you.
What is HECS/HELP Debt?
Higher Education Contribution Scheme (HECS) or Higher Education Loan Program (HELP) is the loan offered by the Australian Government to pay for eligible tertiary education courses. The HECS/HELP debt does not accrue interest, but is indexed against the Consumer Price Index (CPI). If you choose to defer repaying this loan to when you start working, you will have to repay this when your taxable income reaches a certain threshold, which is currently $51,957. The amount you pay back each year depends on how much you earn as outlined in this 2018-2019 Repayment threshold table.
Now let’s look at borrowing power.
Borrowing power (sometimes called “serviceability”) is the maximum estimated loan amount you’re likely to be approved to borrow. Firstly, to enable a broker to assess your borrowing power, you will need to disclose your gross income (salary, rental income, government benefits etc.). This figure is used to figure out your taxable income.
Your taxable income is then used by lenders to calculate your Net Disposable Income (NDI) as follows, which is what they base your serviceability on:
[(Taxable Income – Tax Payable Incl. Medicare Levy) + Non-Taxable Income] – Outgoings = NDI
In the formula used above, ‘outgoings’ refers to expenses and includes your basic living expenses (things like groceries and clothing) and non-basic living expenses (rent, entertainment, health insurance).
Lenders will then look at liabilities such as loan repayments, credit card repayments – and yes, HECS/HELP debt.
If you have a HECS/HELP liability and earn above the threshold (which is currently $45,881), repayments get deducted from your income. The amount deducted depends on how much you make, but the deduction means you will have a lower NDI. The lower your NDI, the less money you can borrow.
Jasmine’s borrowing power
Let’s look at an example. Jasmine is looking to buy an apartment valued at $400,000. She has a deposit saved of $50,000.
Jasmine’s salary (gross income) is $80,000 (incl. super). Based on this pay calculator, her taxable income is $73,059.36, and her monthly post-tax income is estimated at $4,688.28.
Using the Household Expenditure Measure (which lenders and brokers will calculate), her monthly living expenses are estimated to be $1,664. Jasmine has no other costs or liabilities, and she does not have any non-taxable income. Using the formula above, Jasmine’s NDI would be $3,024.28 a month or $36,291.36 per year – less than half her salary.
Based on this and using uno’s borrowing calculator, she can borrow between $426,244 and $529,916.
Now, let’s keep all other variables the same but give Jasmine a HECS/HELP debt. Using the 2018-19 Repayment Threshold table, we can see that based on Jasmine’s income, her HECS/HELP repayment rate is 5.0%. This rate equates to $3,652.97 a year ($304.41 per month). This means that Jasmine’s monthly post-tax income comes down to $4384.87. This brings her NDI down to $2719.87 a month or $32,638.44 per year. The HECS/HELP debt has reduced her NDI by almost $4,000 per year.
As a result, she would only be able to borrow between $397,648 and $494,365.
This example is very specific. The result will be impacted by your individual circumstances and which lender you take a loan out with (each lender assesses HECS/HELP debt differently).
Having said that, it does illustrate why you should be upfront with your broker about your current financial situation. I hope that you have found this helpful and that it may prevent the type of unpleasant surprise my friend was faced with.