How Banks Count Rental Income on an Investment Loan

Banks do not usually count 100% of a property’s rent when they assess an investment loan. Most apply a discount, often called rental shading, and the percentage counted differs between lenders. The discount is there to allow for vacancies, agent fees and maintenance, so the number the bank uses is normally lower than the rent in your agent’s appraisal.

This is general information only, not financial, legal or tax advice.

Why lenders shade rent

A lender assessing a loan is trying to work out whether you can keep making repayments, including when things do not go to plan. A rental property is not tenanted every week of the year. It also costs money to hold: property management, repairs, insurance, council rates and so on. Counting only part of the rent is a way of building that uncertainty into the assessment.

The wider framework comes from the regulators. Under ASIC’s Regulatory Guide 209 on responsible lending, lenders must make reasonable inquiries about your financial situation and take reasonable steps to verify it, and income from sources such as investments has to be understood and confirmed. APRA, the prudential regulator, has also expected banks to test new borrowers at an interest rate at least 3.0 percentage points above the loan rate, as set out in its October 2021 announcement. Shaded rent is then put through that higher-rate test.

What percentage do banks use?

I am not going to quote a single number, because I cannot point to a public rule that sets one. In my experience the share counted varies between lenders, and sometimes between products or property types at the same lender. Some lenders also treat existing rent (backed by a lease or a rental statement) differently from an estimate on a property you are about to buy. Policies differ between lenders; check with yours.

An illustrative calculation

The figures below are my own arithmetic, not any lender’s policy. Assume a property is appraised at $500 a week.

• Full rent: $500 x 52 weeks = $26,000 a year.
• If a lender counted 80%: $26,000 x 0.80 = $20,800 a year. That is $5,200 a year less than the appraisal.
• If a lender counted 70%: $26,000 x 0.70 = $18,200 a year. That is $7,800 a year less than the appraisal.

The point is not the exact percentages. It is that two lenders can look at the same property and reach different borrowing capacities, because the rental income going into the calculation is different. Before you make an offer, ask what percentage your lender applies.

Rent is only part of the picture

Rental income is one input. The lender will also look at your other income, living expenses, existing debts and the new loan repayments. Moneysmart describes borrowing capacity as depending on your income and financial commitments, your deposit and other savings, and your credit score and report. Rent on the new property helps, but it does not remove the rest of the assessment.

What the tax office sees

Lenders and the tax system look at rent differently. The ATO says you must declare rental income, and that where a property has more than one owner, rental income is declared based on your legal ownership share. So two equal co-owners each declare half the rent. For tax questions such as deductions or negative gearing, speak to a registered tax agent. I am not covering them here.

Common questions

Is the agent’s appraisal what the bank uses? Often a lender starts from an appraisal or a lease, then applies its own discount. Ask what evidence it will accept.

Does a higher rent always help? It can, but only the portion the lender counts goes into the calculation, and your cash flow still has to work in the weeks the property is vacant.

Should I budget on the shaded figure? In my view it is sensible to, because the shaded figure is closer to a cautious view of what the property might actually deliver.

What to do next

• Ask your lender or broker what percentage of rent they count and what documents they need.
• Run your own budget using a lower rent figure, plus allowance for vacancy and costs.
• Check your numbers at a higher interest rate, since lenders do.
• Get the lease or rental statement ready for any existing tenanted property.
• Speak to an accountant about the tax side before you commit.

Related Reading

• Riverina Property: Why Regional Serviceability Rules Catch Buyers Out
• What Actually Happens to Your Repayments When the RBA Moves
• Home Lending & Property Glossary

Written by Michael Wignall, who’s spent 30+ years in banking and home lending across the ACT, Illawarra, and Riverina regions of NSW.

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Written by Michael Wignall, Lending Area Manager with 30+ years in banking and home lending across the ACT, Illawarra, and Riverina. Got a question or an idea for a post? Get in touch.