Debt-to-income ratios – Everything you need to know about DTIs

The Reserve Bank will likely bring in debt-to-income (DTI) restrictions later in 2024. DTIs link your income and how much you can borrow.

This means you might not be able to borrow as much money to invest or buy a property.

The number one question on everyone’s minds is: “How will DTIs affect my portfolio and the property market?”

In this article, you’ll learn what DTIs are, and how they will affect you and the wider property market.

Key points:

• The Reserve Bank has announced it will likely introduce DTIs in 2024
• Currently, the Reserve Bank is consulting on the proposed rules. There will be an updated announcement in June 2024
• The new DTI rules only count if you are buying an existing property
• New Builds are exempt from DTIs, so you can still borrow at high levels if the bank allows you.

More from Opes Partners:

• How will DTIs impact house prices? The numbers revealed (Video)
  
• DTI winners and losers - Who benefits from the new mortgage rules (Podcast)
• Your DTI questions answered: Debt-to-income ratios (Podcast)
• Reserve Bank's new mortgage rules: DTI's and LVR's (Podcast)

What is a debt-to-income ratio?

Debt-to-income ratios (DTIs) limit how much you can borrow and ties it to your income.

Here are the rules the Reserve Bank plans to bring in:

• 6x your income – for an owner-occupier
• 7x your income – for a property investor

If you and your partner earn $100k a year combined, the maximum you can borrow is:

• $600k if you are an owner-occupier
• $700k as an investor

All your rent counts in the calculation. So, if you’re an investor earning $100k in salary and $30k in rent, your income is $130k in the calculation. That’s what you multiply by 7.

Your debt includes everything. That means mortgages, credit cards, personal loans and student loans.

How will DTIs impact me?

The new rules only count if you are buying an existing property.

So, if you buy a New Build … forget the new rules. They don’t impact your mortgage application.

Use our DTI calculator to work out how much you can borrow with debt-to-income ratios in place.

How are debt-to-income ratios calculated?

Let’s go through a couple of examples to understand how DTIs work.

Case study #1 – Sally and Bob want to buy their dream home

Let’s say Sally and Bob own their own home … but don’t own any investment properties.

They both earn $75,000 each, which is a combined income of $150,000. This is before tax (gross income).

The DTI is set to 6 for owner-occupiers, and you multiply this by your household income.

6 x $150,000 = $900,000.That’s the maximum Sally and Bob can borrow.

But that doesn’t mean Sally and Bob can only afford a house worth $900,000. That’s just the lending. We also need to factor in their deposit.

Let’s say they have a 20% deposit.

The maximum price Sally and Bob can pay for a house is about $1,125,000. That’s broken down into $900,000 of lending and a $225,000 cash deposit.

Case study #2 – Sam and Murphy want to buy their first investment property

Sam and Murphy want to buy their first investment property. Their household income is also $150,000.

This couple has owned their property for a while and has paid down the mortgage to $450,000.

If we multiply their income by 7 (the DTI), the maximum they can borrow is $1,050,000.

But they are already borrowing $450,000.

That means they could potentially borrow an extra $600,000 for an investment property.

But we also need to factor in rental income.

Assuming they can buy a property with a 4% gross yield, they could borrow about $830,000 (with no cash deposit).

That’s because a $830,000 property would earn almost $33,000 in rent. That counts towards the DTI calculation.

So the calculation goes – $150,000 (their income) + $33,000 (applicable rental income) x 7.

That equals about $1,280,000 of debt.

The calculations for investors are a bit tricky, so it’s a good idea to work with a mortgage adviser to see how much you can borrow.

How will DTIs impact property prices?

At the start, these rules will boost house prices. Here’s why.

The new DTI rules will have almost no impact once implemented.

That’s because up to 20% of bank mortgages can be outside the rules.

So, around 1 in 5 investors and owner-occupiers can get a “high DTI” mortgage.

But, interest rates are high, so it’s hard to borrow a lot of money right now.

Today, less than 1 in 10 borrowers are getting these high debt-to-income loans.

That means banks could dole out even more high DTI loans and be within the Reserve Bank’s new rules.

So, the DTIs won’t have an impact straight away.

But at the time the Reserve Bank changes the rules, they also plan to update the LVR restrictions. This will lower the amount of deposit investors need to buy their next property.

The lower deposit rules will encourage investors to get into the market and that could boost property prices.

Once interest rates fall, though, that’s where the DTIs come in.

We won’t be able to borrow as much as we otherwise could.

What’s the impact? It depends on where you live.

In parts of New Zealand (Invercargill, Taranaki) house prices are low, and incomes are healthy.

The average person buying the average home has a DTI of less than 4. So the DTI rules will have less of an impact on those market.

In holiday hotspots (Queenstown, Coromandel), house prices are high compared to incomes. So, there is more scope for DTIs to slow the market down.

Here’s a map of the country, so you can see the estimated DTI in your area:

Give it to me straight: How much do I need to worry about DTIs as an investor?

Property investors are more likely to be impacted by a debt-to-income ratio. As well as owner-occupiers who have big mortgages to their name.

These are the groups who tend to buy at high debt-to-income ratios.

At the peak of the market:

• 40% of property investors were borrowing above 7x DTI
• 30% of other owner-occupiers (not first-home buyers) were borrowing above 6x DTI
• Not as many first-home buyers were buying a house with a mortgage above 6x DTI

So the new rules won’t impact first home buyers as much, but some investors will be slowed down.

However, New Builds are exempt from these new rules.

So, if you’re investing in a New Build you won’t have to worry about DTIs.

Will house prices still go up when DTIs come in?

Because DTIs slow down lending, they can slow house price growth.

So many property investors will ask: “Will my property’s value still go up if DTIs come in?”

Let’s look at the stats.

House prices still go up in other countries when DTIs come in

Ireland introduced DTIs in 2015. Since then, Irish house prices have gone up 64%, or 6.4% a year.

Ireland is an interesting case, though. They had a massive property price boom between 1990 and 2007.

Then, house prices dropped by over 50%. So, some of that increase is recovery from the falls.

But it’s fair to say that DTIs didn’t stop Irish house prices from going up.

Eight years before that, Latvia brought DTIs in, too.

Since 2009, Latvian house prices have doubled (in just 13 years).

That’s 6.7% a year on average.

In Norway, house prices have gone up 4.4% a year since their rules came in (in 2015).

So, international evidence suggests house prices can still go up with DTIs …

even the Reserve Bank agrees.

They say: “The international evidence is mixed … some studies find significant impacts [on house prices], and others find little to no impact.”

Of course, these countries have different circumstances. Norway is different from Latvia, and New Zealand is different from Ireland.

But it’s clear: house prices can still go up when DTIs come in.

DTIs tie credit growth to incomes

Let’s pretend the whole country (hypothetically) has maxed out its borrowing ability.

If this happened, we can only borrow more money when our incomes increase.

Incomes go up by around 4% annually. So, that’s about how much extra the country could borrow.

That means house prices could still increase by about 4% a year, solely from a lending perspective.

But Kiwis have not maxed out their borrowing potential ... far from it.

We estimate that the average mortgage borrower in NZ has a DTI of 4.5x.

This means that the average Kiwi will still be able to borrow and spend on housing if they choose to.

What can I do as an investor?

Peter Norris, of Opes Mortgages, says that the DTIs won’t impact everyone the same way.

There will be some investors who won’t notice as much as others.

For example, if you have a large portfolio with low debt (or a big personal income), you won’t have to worry as much.

But, at the other end of the scale, who will it have a larger impact on? Investors at the start of their journeys and home buyers looking for their dream home.

If that’s you, talk to your mortgage broker to see how much you could be impacted. You may want to make a move in property before the DTIs start to bite.

Another option is to invest in New Build properties, which aren’t covered by the regulation.