Have you ever gone to the bank to find out how much you could borrow for a mortgage, only to leave unpleasantly surprised? And perhaps a bit confused about how little you can borrow and how the bank actually arrived at that figure? If so, and it's still bothering you, then this article is just for you. Today, we'll look at how banks view an applicant's existing financial obligations, what types of liabilities affect how much you can borrow, and I'll also give you a few tips on how to potentially improve your situation.
Why Is the Bank So Strict?
First, it's important to understand that a bank can never provide a loan that is beyond the applicant's means. This means they must always leave the applicant with enough disposable income to cover living expenses and repay any existing loans. This might seem obvious, but I still encounter clients who believe that having a high-value property, for example, will allow them to bypass this. That's not the case. The bank must always evaluate your financial obligations against your income.
The bank bears a great deal of responsibility because, by law, any misjudgment of the applicant's situation is its fault, which can have unpleasant consequences for the bank. Therefore, don't expect any major concessions.
How Does the Bank Find Out What You're Repaying?
The bank, of course, must verify your proven income. Then, it will pull your credit reports, request bank statements, and see everything: credit cards, overdrafts, consumer loans, other mortgages, and how you're repaying them. But it will also find out how much you spend and how large your family is.
First, we need to distinguish between credit liabilities and other liabilities. This is important because credit liabilities have a different impact on the potential size of your new mortgage payment than other types of expenses.
- Credit liabilities: consumer loans, mortgages, overdrafts, credit cards, and often business loans as well. Be careful, this also includes all installment purchases. So, for example, that phone you bought on a 12-month payment plan will be there too.
- Other liabilities: personal living costs, child support costs (whether they are in your care or you pay alimony), spousal support, and potentially rent.
And to make things more complicated, later we'll look at a category of liabilities that are a curious mix of both. And you should watch out for this, as it's often an unpleasant surprise.
Credit Liabilities and the Dreaded DSTI
Let's start with the simpler ones – mortgages and consumer loans. These liabilities are simply counted as expenses based on their payment amount and, without exception, are always included in the DSTI (Debt Service to Income) ratio.
Let me briefly remind you what this is. DSTI indicates what percentage of your net income is made up of all your loan payments. For example, if you have an income of CZK 100,000 and a mortgage payment of CZK 20,000, your DSTI is 20%. It's an important indicator because banks cap it at a maximum, most often around 50%.
Treacherous Revolving Loans: Credit Cards and Overdrafts
Another very important category is so-called revolving loans, i.e., credit cards and overdrafts. They have the characteristic of not having a stable payment. The payment is either zero (if you don't use the credit at all) or, in the case of a credit card, it depends on the currently drawn amount.
In the case of revolving loans, banks simplify things and, regardless of the usage rate, they factor in a fictional payment, which is most often 3 to 5% of the limit of the given overdraft or credit card.
So, a credit card with a limit of CZK 100,000 can automatically mean a fictional monthly expense of CZK 5,000. This is often a big surprise, as many people have a credit card lying in a drawer that they don't use at all. Sometimes they don't even remember it or have it just for renting a car abroad, for example. However, it is visible in the credit registries, and therefore, even if unused, it is counted as an expense and affects your DSTI.
How to Get Your Liabilities in Order?
If you want to find out where you stand with your credit liabilities, including their repayment history, the easiest way is to download a joint statement from the BRKI (Banking Client Information Register) and NRKI (Non-Banking Client Information Register). This statement can be easily obtained online from the website kolikmam.cz. From it, you will learn exactly what liabilities you currently have (including those forgotten credit cards in your drawer) and also how you have repaid them historically.
You will also find out if you have a loan application filed somewhere that you don't even know about. This is because banks often file an application for you just when you come to inquire about a mortgage, without notifying you in any way. When this happens, it's not a tragedy. I must dispel a common fear that any filed application worsens your credit profile – that is definitely not the case. It's just good to know which bank filed the application for you, because you will then have to withdraw it and provide confirmation of its termination if you ultimately take out a mortgage with another bank.
Myth: I Must Pay Off All Debts Before Applying
This brings me to a common misconception. If you have a liability that would prevent you from getting a large enough mortgage (because it would, for example, raise your DSTI above an acceptable level), it is not necessary to pay off and cancel this liability before applying, or even before the mortgage is approved.
If you have the means to terminate this liability (you have the money to pay it off, or it's just a pending application or a credit card you can simply cancel), you just need to inform the bank. The bank will include a condition in the loan agreement stating that to draw down the mortgage funds, you must provide confirmation that the specific loan has been canceled. So, the mortgage can be approved right away, but you can only draw the funds after terminating the conflicting liability.
Beware of credit cards! Canceling a card takes 30 days, and many banks are not satisfied with just a cancellation request; they want confirmation of the cancellation. This can then become a source of unnecessary delays.
What About Other Expenses? Living Costs and Family
That covers credit liabilities, so let's move on to non-credit ones. Everyone has minimum living costs that the bank must account for. If there are more members in the household, the costs increase. However, they are not a simple sum – the bank takes into account that each household has certain fixed costs regardless of the number of people. For example, the estimated cost for an individual might be CZK 13,000 per month, and for a couple living in one household, around CZK 19,000.
The bank must also account for children, so the more children you have, the larger the remaining income they must leave you after deducting the payment. It's important to know that these living costs are not included in the DSTI because they are not a credit-related expense. In other words, they don't limit the payment amount as a ratio of your income, but only in absolute terms.
For example, if you have an income of CZK 40,000 and a family of four, your living costs, according to the bank, might be around CZK 28,000. Therefore, you cannot afford a payment higher than CZK 12,000, even though that's only about 30% DSTI.
This type of expense also includes:
- Child support for children not in the applicant's care.
- A spouse, even if they are not a co-applicant (if only one spouse is applying based on a marital property agreement).
- A partner in a shared household, even if you are cohabiting without being married.
- Rent, if you are renting. However, if it's assumed you will stop paying rent because you are buying a property for your own housing, the bank will not count it as an expense.
One Amusing Consequence to Conclude
If you already own a property and want a mortgage for another one, you are less creditworthy from the bank's perspective if you live in it. Really. This is because when you live in it, you don't have to pay rent, but you also don't have any rental income. If you were to move into a rental and rent out your own property, you would have a new source of income, and the rent you pay is not a liability that is included in the DSTI. It's a little trick that is sometimes used.
Beware the Gray Area: Leases
As I mentioned at the beginning, there are liabilities that fall into a gray area. These are leases and operating leases. With these, the situation is more complicated for two reasons.
- They are often under a business ID: Both products can be provided under a business ID, i.e., as business liabilities. However, this doesn't automatically mean they aren't counted as personal liabilities. If you are self-employed, they will be visible in the credit registries under your personal identification number, and most banks will consider them as part of your monthly expenses.
- The treachery of operating leases: You might think it's just a rental, so it's not actually a credit liability. And you would be right. However, operating leases are reported to the non-banking client information registries. So, not only does the bank know about them, but unfortunately, it includes them in the DSTI calculation.
Be very careful with this, because from experience, canceling an operating lease can be far from simple. Even if you pay it off for the remaining period, it can be difficult to get confirmation from the leasing company that your obligation has ended, which can complicate the process of drawing down your mortgage.
What's the Takeaway?
To summarize the whole topic and give some specific recommendations, proceed as follows:
- Assess your liabilities: Whenever you want to apply for a mortgage, get a clear picture of your credit and other liabilities.
- Download your credit report: This is the best way to find out about your credit liabilities.
- Consider consolidation or cancellation: If you can't qualify for the mortgage you need, think about whether you could pay off or cancel some of your liabilities.
- Find out the cancellation terms: If you need to cancel some liabilities, find out exactly what it entails so you know it can be done quickly enough.
An experienced mortgage specialist can help you with all of this. So, a little shameless plug to finish – if you'd like help with your mortgage, don't hesitate to contact me.
