How do interest rates affect Borrowing (Debt) Capacity?

With interest rates continually climbing, most of the commentary focuses on how much more it will cost borrowers each month. Whilst it is important to understand this impact, it also very worthwhile to assess how much an interest rate increase restricts further borrowing through debt capacity &/or LVR restrictions.

Our analysis below demonstrates the significant impact even a 1% interest rate movement can have on a customer’s ability to borrow. And given BBSY is ~3.50% higher than this time last year, it is easy to see how much the interest rate movement has restricted customer’s borrowing capacity.

 

As seen in the example above, a 3% increase in Business Lending rates reduces the customer’s borrowing capacity by nearly $1m (based on repayments over 10 years). So if a customer is looking at an acquisition or purchasing a property to operate from, they may have to raise an extra $1m due to interest rate movements.

And for property investors, who traditionally have a smaller ‘spread’ of interest rates due to providing tangible security, a 0.50% increase can mean losing well over $1m in borrowing capacity, despite the LVR being within normal guidelines. i.e. even if a Bank was willing to lend up to 60% LVR, if the interest rate is 6% the borrower won’t be able to borrow more than 55% LVR if the Bank’s ICR Hurdle is 1.50x.

Given the substantial impact a relatively small interest rate movement can have on borrowing capacity, it is critical to ensure your interest rates are as competitive as possible to maximise your borrowing capacity. And with inflation stubbornly high, it doesn’t look like rates will be trending down anytime soon.

To make sure your finance arrangements are optimised, having an expert debt advisor like Nexus Capital Partners is key to making sure your business doesn’t miss out on future opportunities.