APRA proposes amending guidance on mortgage lending

The Australian Prudential Regulation Authority (APRA) has begun consulting on possible revisions to its guidance on the serviceability assessments that authorised deposit-taking institutions (ADIs) perform on residential mortgage loan applications.

In a letter to ADIs issued today, APRA has proposed removing its guidance that ADIs should assess whether borrowers can afford their repayment obligations using a minimum interest rate of at least 7 per cent. Instead, ADIs would be permitted to review and set their own minimum interest rate floor for use in serviceability assessments.



APRA has also proposed that ADIs’ serviceability assessments incorporate an interest rate buffer of 2.5 per cent. Currently, APRA expects ADIs to assess loan serviceability using the higher of either (i) an interest rate floor of at least 7 per cent, or (ii) a 2 per cent buffer over the loan’s interest rate. APRA’s guidance also indicates that a prudent ADI should use rates comfortably above these minima; most ADIs use 7.25 per cent and 2.25 per cent respectively.



APRA first introduced the serviceability guidance in December 2014 as part of its efforts to reinforce sound residential lending standards. In particular, the interest rate floor and buffer served an important purpose in limiting excessive borrowing in an environment of low interest rates and high household debt. The guidance was subsequently incorporated into Prudential Practice Guide APG 223 Residential Mortgage Lending, which APRA is now proposing to amend.



APRA Chair Wayne Byres said the operating environment for ADIs had evolved since 2014, prompting APRA to review the ongoing appropriateness of the current guidance.



“APRA introduced this guidance as part of a suite of measures designed to reinforce sound residential lending standards at a time of heightened risk. Although many of those risk factors remain – high house prices, low interest rates, high household debt, and subdued income growth – two more recent developments have led us to review the appropriateness of the interest rate floor,” Mr Byres said.



“With interest rates at record lows, and likely to remain at historically low levels for some time, the gap between the 7 per cent floor and actual rates paid has become quite wide in some cases – possibly unnecessarily so.



“In addition, the introduction of differential pricing in recent years – with a substantial gap emerging between interest rates for owner-occupiers with principal-and-interest loans on the one hand, and investors with interest-only loans on the other – has meant that the merits of a single floor rate across all products have been substantially reduced.



“The changes, while likely to increase the maximum borrowing capacity for a given borrower, are not intended to signify any lessening in the importance that APRA places on the maintenance of sound lending standards. Rather, it is simply recognition that the current interest rate environment does not warrant a uniform mandated interest rate floor of 7 per cent across all products. 



"The proposed changes will provide ADIs with greater flexibility to set their own serviceability floors, while still maintaining a measure of prudence through the application of an appropriate buffer to reflect the inherent uncertainty in credit assessments.”



A four-week consultation will close on 18 June, ahead of APRA releasing a final version of the updated APG 223 shortly afterwards.



A copy of the letter is available on APRA’s website at: https://www.apra.gov.au/residential-mortgage-lending-adis