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Raising the buffer and the floor in mortgage lending

Earlier this week, the Australian Prudential and Regulation Authority (APRA) sent a letter to industry to consult on amendments to their prudential guide on mortgage lending. The consultation period will remain open for four weeks, ending on 18 June.

In their letter, APRA proposes removing the guidance regarding the use of a minimum interest rate of 7 per cent, adding that this should include a 2 per cent ‘above the loan product rate’.

The letter reminded industry that the principal purpose of this, and the reason why it was included in the Prudential Practice Guide APG 223 Residential Mortgage Lending, was to be sure borrowers could continue making repayments, even when interest rates rise.

While APRA proposes the removal of the 7 per cent minimum amount, most expect ADIs will ‘keep under review’ a rate that meets their portfolio and risk appetite.

It would also suggest moving the minimum buffer from 2 per cent to 2.5 per cent, while at the same time removing the expectation that an ADI should use a buffer percentage much above this recommended 2.5 per cent.

However, APRA noted that most regulated ADIs already use a buffer rate of 2.5 per cent.

Even with the proposed changes highlighted in the letter, the prudential regulator indicated they will still expect regulated entities to comply with paragraph 34 in APG 223, which essentially addresses the ADI’s obligation to apply the floor and buffer to both the new and existing debt commitments.

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