Test rates are expected to rise along with the OCR and mortgage rates
As mortgage rates rise, so do the test rates banks use when assessing whether mortgage applicants can service their debt, should conditions change in the future.
Read more: Keeping 'secret' mortgage rates under borrowers' radar
ANZ, New Zealand’s largest bank, said those applying for mortgages currently need to be able to satisfy the bank that they would be able to service debt at a 6.7% interest rate. ASB, meanwhile, said it’s testing applicants using a rate of 6.85%.
The standard one-year to five-year fixed mortgage rates for these two banks range from 4.49% to 6.45%.
ASB said it is currently reviewing its test rate in response to recent interest rate changes on the back of the latest OCR hike, while ANZ made a more general comment that its test rate is “regularly reviewed in line with the changing interest rate environment,” interest.co.nz reported.
BNZ, Kiwibank and Westpac, meanwhile, didn’t divulge their test rates, but similarly commented that they’re regularly reviewed.
Read next: Advisers call for lower servicing test rates
Test rates along with the OCR and mortgage rates are all likely to rise moving forward.
If banks’ test rates are derived by adding similar margins to the OCR, or average one-year mortgage rate, as they have in the past, their test rates will exceed 7%, the report said.
Reserve Bank data showed that between 2017 and 2021, there had been a three- to four-percentage-points buffer between the average one-year mortgage rate (which is currently 4.1%) and the average bank test rate. Similarly, the buffer between the OCR (which is currently 1.5%) and the test rate was at around 6pp between 2018 and 2021.
The RBNZ predicted OCR to peak at 3.4% in this tightening cycle. The bank couldn't tell interest.co.nz what the average test rate was in 2015, when the OCR was last this high.
Someone wishing to borrow $500,000 over 30 years tested at 7.5% would need to satisfy their bank that they could make repayments of $806 a week – that’s $62 a week more than if ANZ’s current test rate was used, and $249 a week more if they fixed at 4.1%.
RBNZ is considering setting a minimum test mortgage rate for banks. Between November and February, it consulted on the matter and will likely talk more about it when it releases its Financial Stability Report on May 4.
The central bank proposed to impose a minimum test rate to “address short-term financial stability risks” while it works with banks to establish a debt-to-income (DTI) restriction regime.
RBNZ didn’t specify where it would set the test rate, but modelled the impacts of it being at 7% and 8%. The minimum test rate could be introduced sometime between April and June, as a stop-gap measure, prior to the implementation of DTI restrictions by the end of the year.
The RBNZ said it’s “unlikely” it would impose a minimum test rate and DTI restrictions at the same time.
DTI restrictions would limit the amount of new mortgage lending that could go to borrowers with low incomes relative to the amount of debt they sought, interest.co.nz said.
The RBNZ said there were a number of approaches it could take to setting a minimum test mortgage rate.
The bank’s preference, however, was to add a fixed buffer to a benchmark rate, to ensure the test rate was stable over time, moved automatically, and was the same for all mortgage applicants – whether they be investors, existing owner-occupiers, or first-home buyers.
RBNZ noted that while the OCR is closely linked to mortgage rates, a longer-term rate like a five- or 10-year swap rate might better reflect long-term trends in interest rates. It said it could review the test rate quarterly.
The central bank recognised the policy would hit first-home buyers particularly hard, which was why it suggested using a minimum test rate only as an interim measure ahead of implementing DTI restrictions, interest.co.nz reported.
