After an interminable search, you’ve finally located your dream home, and your debt-to-service ratio (DSR) is the furthest thing from your mind. Nevertheless, it certainly factors in when you apply for a home loan to finance said property.
What is a Debt Service Ratio?
Debt Service Ratio (DSR) refers to the calculation of a person’s total debt in comparison to their household income. Banks use this measurement to determine someone’s ability to settle their debt obligations and whether or not the former should lend to them.
Your DSR is one of your risk profile’s three main components that affect your borrowing power. Other factors that banks take into account in their decision are:
- Credit score/CTOs and CCRIS reports
- Property valuation
- The maximum Loan-to-Value (LTV) ratio/Margin of Finance available to you
In this article, we’ll be focusing solely on the debt-to-service ratio. As different banks have different DSR thresholds, you must conduct thorough research to avoid rejection and subsequently losing the humble abode you’ve been eyeing.
How may DSR Affect Home Loan Approval?
If you’re buying a house in Malaysia, your DSR should generally remain within 70%. Some banks require DSRs significantly lower than that percentage to accept a loan application, which we’ll elaborate on below.
Banks use this method to adjudicate how much a person’s income goes into paying off loans and other debt forms. In turn, it helps them to gauge whether you can afford to take up the housing loan you’re applying for.
Naturally, a low DSR would prove attractive to banks as it indicates your ability to pay monthly instalments on time, and there is a lower risk of default.
Many Malaysians are not aware that their debt servicing ratio is often higher than the maximum amount that certain banks accept, resulting in unsuccessful applications.
What’s the Formula for Calculating DSR?
To reiterate, DSR is the total debt ratio to personal household income. You can use the following formula for calculation:
Debt/Net Income X 100 = DSR
|Debt||All financial obligations/commitments, i.e., personal loans, car loans, student loans and credit card payments.|
|Net Income||Whatever income an individual makes after deductibles such as income tax and EPF payments.|
Can we interest you in a simple example? Let’s assume you’re a working individual with a total monthly income of RM10,000 living in Selangor. After removing the deductibles, your net income is approximately RM8,500.
Thus, to have a DSR ratio of 70%, your total debt cannot exceed:
70/100 X RM8500 = RM5950
Now let’s deduct your other financial obligations with loosely estimated figures.
- Car loan: RM500
- Credit card bills: RM400
- PTPTN Loan: RM100
Total Debt Obligations = RM1000
In which case, your total debt threshold goes down by:
RM5950 – RM1000 = RM4950
Given that your financial situation and affordability of monthly loan instalments limit your options, it only makes sense to search for a property within your budget range. If you choose an expensive property with a high DSR, chances are your loan applications aren’t looking up.
How Banks Calculate Debt-to-Service Ratio
As mentioned, every bank uses its respective calculation methods for income and commitment recognition. It’s common for two banks to calculate different DSR values for the same person, with possible differences of up to 20%.
Each bank has its own guidelines as well for the maximum allowable DSR threshold. Typically, they are affected by income level and sometimes even factors like qualifications and age. For instance:
|Example 1||Standard Chartered Bank may base their calculations on Gross Income, while RHB and Maybank base it on Net Income.|
|Example 2||CIMB and HSBC may recognise 100% of a person’s rental income, while OCBC and Public Bank only recognise 80%.|
|Example 3||Hong Leong considers 100% of a customer’s foreign-derived income, while RHB only recognises 45%.|
It is vital to research a bank’s DSR cap before applying for a home loan, as other banks will know about rejected applications through your CCRIS record. However, refrain from sulking in defeat when you do fail. You can always try your luck at other banks or pay off some outstanding debts and try again.