You will be able to calculate the Total Debt Servicing Ratio and explain why banks use a higher interest rate than you will pay.
Hakim's sister Aisyah, a few years older, was turned down for the loan amount she wanted on a condo. Her package rate was low, and at that rate the instalment fit her budget easily. The banker explained that the bank hadn't tested the loan at her rate. It had tested it at a higher one, and at that rate, with her car loan included, she didn't pass.
That is the Total Debt Servicing Ratio, and the rate it uses is the part most buyers have never heard of.
The Total Debt Servicing Ratio, or TDSR, is all of your monthly debt payments as a share of your gross monthly income. A bank may not grant a property loan if your total debt payments, including the new loan, would push that share above the cap set by MAS.
The difference from the MSR in lesson 4.2, MSR: the cap on instalments for HDB flats and ECs, is the word "all". The MSR looks only at property loans. The TDSR counts the new housing loan, any other property loans, car loans, personal loans, renovation loans, study loans, and the minimum payments on credit cards and credit lines. If it is a debt with a monthly payment, it is probably in.
The TDSR applies to property loans from banks and other financial institutions, for any type of home. That includes a bank loan for an HDB flat, which must pass both the MSR and the TDSR. It doesn't apply to HDB loans, which HDB assesses under its own rules.
Income is counted the same way as for the MSR: gross, with variable and rental income discounted. Farah and Hakim's assessed income, from lesson 4.2, is S$11,200 a month in this example.
Take a TDSR cap of 50%, invented for this example. The current cap is on the MAS website. Half of S$11,200 is S$5,600, the most all their debts together may cost each month. Hakim has a car loan of S$650 a month. That leaves S$4,950 a month of room for housing loans under the TDSR.
For the Bedok flat, the MSR from lesson 4.2 gave S$3,136, which is lower, so for an HDB flat the MSR is the limit that bites. For a private condo, where there is no MSR, the TDSR room of S$4,950 would be the limit.
Now the part that caught Aisyah. When a bank checks your loan against the TDSR, and the MSR for bank loans, it doesn't use the interest rate on the package you are being offered. It uses a higher rate: a medium-term interest rate set by MAS, or the package rate if that is higher.
The reason is simple. Most home loans run for decades, and rates will move many times over that period. Your package rate might be low today, but if rates rise after the lock-in, the instalment rises with them. The stress test asks whether you could still afford the loan at a rate closer to what you might face over its life.
Take an invented stress-test rate of 4.5%, and an invented package rate of 3%. The current medium-term rate is on the MAS website.
On Farah and Hakim's loan of S$427,000 over 25 years, the instalment at 3% is S$2,024.88 a month. At 4.5% it is S$2,373.40. That second figure is the one the bank compares with the cap. Both fit inside their MSR limit of S$3,136, so they pass.
Here is how a loan that looks affordable can fail. Suppose Farah and Hakim wanted a condo with a loan of S$950,000 over 25 years. At the 3% package rate, the instalment would be S$4,505, comfortably inside their TDSR room of S$4,950. At the 4.5% stress-test rate, it would be S$5,280, which is S$330 over. The bank would reduce the loan until the stressed instalment fit, which in this example means about S$890,000.
That is roughly what happened to Aisyah. Her package rate made the loan look easy, the stress test cut it, and her car loan took a slice of the room before the home loan got any.
The gap between the package rate and the stress-test rate shrinks your limit. When package rates are well below the stress rate, the test bites hard, and when they are close to it, it matters less.
It is tempting to see the stress test as an obstacle between you and the home you want. But it asks a fair question. Lesson 5.2, Fixed, floating and SORA-pegged packages, shows how a one-point rise can lift an instalment by hundreds of dollars a month. If your budget only works at today's rate, a rise after the lock-in will hurt, whatever the bank allowed.
So run the test on your own budget as well. Look at the stressed instalment and ask whether you could pay it for a few years without cutting into your emergency fund. How the economy hits your wallet: rates, inflation and cycles, lesson 2.5, Stress-test your loans and savings for a rate move, does exactly this from the household side.
Start with your debts, every one with a monthly payment, then the cap and the stress-test rate from MAS. In the activity below, list all your monthly debt payments and work out how much room the TDSR leaves for a home loan at the stress-test rate.
List all your monthly debt payments and calculate how much room TDSR leaves for a home loan at the stress-test rate.
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