For any new loan, the lending institution will assess the repayment capacity of the borrower and then define with him the amount and duration of the loan. What are the elements to take into account for this estimate and especially, how to optimize its debt capacity?
How to define the debt capacity?
Each loan contracted involves a refund. Each borrower, whether a natural or legal person, has a different repayment capacity depending on his profile, income and expenses. This is called debt capacity, or borrowing capacity. It represents the maximum amount of cumulative monthly payments of outstanding credits that the borrower is able to pay. This data is the main element on which the borrowing agency will rely to grant or not the loan. Banks consider that a borrower’s repayment capacity is 33% of revenues.
The debt capacity concerns all types of loans, that is to say both the home loan and consumer credit, which includes personal loan and credit affected.
What resources should you use to calculate your debt capacity?
Several elements come into play to assess the debt capacity:
- the net taxable salary is the key element of the income. If the latter is variable, the financial institution will establish a one-year average in which fixed premiums, such as the thirteenth month or the attendance and vacation bonuses, will be integrated. Random bonuses, such as commissions or incentive bonuses, are not retained;
- the different pensions, of invalidity or reversion, are considered as certain therefore as income;
- housing benefits are not taken into account and the banker will calculate the family allowances that will be collected by the household until the majority of the children if they are young at the time of signing the loan;
- land revenue is the last element that enters the calculation, once deducted from the rent collected charges, taxes and monthly payments.
Calculation of repayment capacity: which charges?
Once all revenues have been identified, it is necessary to quantify the charges that will constitute the debt capacity up to 33%. If the expenses of the everyday life are not retained since they enter the “remainder to live” beyond the repayments of credits, one takes into account:
- Monthly installments of credits already in progress;
- The different pensions to be paid;
- Possible rents for the principal residence in the case of a home loan that would be contracted for a second home or as a rental investment;
- Tax arrears;
- And finally, we will take into account the credit requested and integrate the projected monthly payments.
In short, all expenses and debts must be accounted for. It is the sum of all these elements that must not exceed the 33% of income that represents the capacity of indebtedness.
Note: the method of calculating the debt ratio
The debt ratio is obtained according to a simple mathematical calculation: (expenses / income) × 100.
The borrowing institution needs to be reassured about long-term repayment capacity. It is therefore essential to justify a CDI, insurance of sustainable income. In the case of a self-employed worker, positive two-year reports must be presented, ideally over three years. Considerable personal input is also a good part of the record. It must be greater than 10%, and preferably represent between 20% and 30% of the overall amount of the project. A contribution greater than 30% opens many doors and will facilitate the negotiation on the debt capacity. If several consumer loans are in progress blocking the project, it is advisable to settle one of the credits, to use a pool of credit or to apply for a credit line while repaying the last monthly payments in progress. And if, for the mortgage demanded, the debt capacity remains too strong, the last solution is to extend its duration to relax the current budget.
How to increase your debt capacity?
The calculation of the repayment capacity has been stopped at 33% because it is assumed that beyond this threshold, the so-called “rest to live” will be insufficient for the borrower. A risk in the long term to weaken its financial situation. However, this threshold can be revalued if the incomes of the borrower household are large enough to ensure a comfortable stay-to-live. Article L331-2 of the Consumer Code regulates this amount. It must be at least equal to the RSA, plus 50% for a home, with or without children. So a household with significant income can negotiate with the funding agency to increase its debt capacity to around 40%.
Debt capacity: other parameters come into play
The debt ratio, the personal contribution and the income are not the only criteria taken into account by the funding agencies. The latter also take into consideration, in particular:
- The load jump (difference between the amount currently paid for a lease and the future amount to be paid for a real estate purchase);
- Account management of the borrower (presence of savings, or on the contrary of overdrafts);
- The profile of the borrower (age, income brought or not to evolve according to the professional activity exercised …).
Thus, even if the debt ratio exceeds 33%, again, the ability to borrow is not reduced to nothing if the borrower has some assets on his side. On the other hand, in the opposite case, and especially if there are bank overdrafts, there is a high probability that it will be refused by the bank.
What about the buying capacity?
To differentiate from the debt capacity, which represents the difference between your expenses and your income, the purchasing capacity designates the total amount that you can invest to put your real estate project on your feet. Its calculation is done according to the following formula:
Purchasing capacity = (debt capacity + personal contribution + assisted loans) – notary fees.
Purchasing capacity of Mr. and Mrs. Robert
After months of unsuccessful research, Mr. and Mrs. Robert have finally found the rare pearl: a pretty little tree house, far from the urban bustle. Its purchase value: 400 000 €. Will the bank follow them in this real estate project?
To determine the couple’s budget, and thus its funding capacity, let us detail its situation:
- Monthly total revenue: € 7,000;
- Monthly total charges, including loans in progress: € 1,500;
- Personal contribution: € 100,000;
- Assisted loans: none.
To determine their exact debt capacity, Mr. and Mrs. Martin make the judicious choice to use a simulation tool. They therefore enter their rest-to-live (7,000 – 1,500 = 5,500 €), choose a repayment term over 20 years, for an interest rate of 2%. Instantly, the simulation tool tells them that the amount they can borrow is 358,000 €.
To this amount, it will be necessary to add the personal contribution, then deduct the notary fees, which would be of the order of 7 to 8% of the value of purchase since it is about an old housing. We get: 400,000 x (8/100) = 32,000 € notary fees.
The purchasing power of the couple amounts to: (358 000 + 100 000) – 32 000 = 426 000 €.
Mr. and Mrs. Martin should finally be able to spend happy days in the country villa for which they cracked!
You too, want to make a mortgage after a crush? Or, would you like to subscribe to a personal loan for the purchase of a new car? Whatever your project, with Younited Credit, accurately define your debt capacity and enjoy the good of your dreams, the serene spirit!
Three key points to remember about debt capacity
- It indicates the amount that can be borrowed;
- It concerns the mortgage loan and all other forms of loans (personal loans, loans, etc.);
- It is used to calculate purchasing capacity.