The HEM (Household Expenditure Measure) was developed by the Melbourne Institute of Applied Economics in 2011 as a measure that reflects a modest level of household expenditure for various types of families.
Banks use this benchmark to estimate a borrower’s minimum living expenses.
How is HEM Calculated?
HEM uses a median expenditure on ‘Basic’ expenses such as food purchased from a supermarket and children’s clothing, combined with 25% of spending on ‘Discretionary’. The HEM benchmark is income-adjusted, meaning it recognises that higher-income consumers generally have higher living expenses and vice versa.
In other words, banks will determine a minimum living expense as HEM in the borrowing power calculation, based on borrower's income and household position. But if the borrower's actual living expenses are higher than HEM, then banks will use the higher figure of the two.
Why do Banks Care About my Living Expenses?
When banks assess your ability to borrow, one of the major factors they evaluate is your spending compared to income. Your living expenses are a good indication of your character as a potential borrower.
Specifically, banks will first identify your necessary regular spendings such as your bills and groceries. They then compare that to your regular discretionary spending on items or activities that are not necessary on a day-to-day basis.
For example, banks will raise red flags for regular spending at pubs and clubs or spending on luxury fashion items. And in this way, the borrowing power would be affected.
List of factors
- Basic necessities – Living expenses encompass the fundamental requirements for sustenance, such as grocery bills, clothing expenditures, and transportation costs.
- Housing costs – Housing costs, including rent or mortgage payments, are significant components of living expenses. Lenders consider the amount individuals or families spend on housing to ensure that it aligns with their income and financial capacity.
- Utilities and bills – Utilities, such as electricity, water, gas, and internet services, as well as regular bills like phone bills, are included in the calculation of living expenses.
- Education and childcare costs – For individuals or families with children, education and childcare costs are crucial considerations. This includes school fees, uniforms, textbooks, childcare centre fees, and after-school care costs.
- Insurance and other financial obligations – HEM calculations also take into account insurance premiums, such as car insurance. Additionally, other financial obligations include personal loans, credit card repayments, and ongoing debts.
Non-HEM Expenses
Please be mindful, that some of the expenses are considered as non-HEM expenses by the banks. And banks will add all these expenses on top of HEM in the borrowing power calculation. Non HEM expenses include investment property expenses, private health insurance, etc.
The key to maximising your mortgage borrowing power is finding a lender that takes a common-sense approach to your spending. These lenders recognise areas where you can easily and quickly reduce your discretionary spending, such as in entertainment and dining out. Contact your professional mortgage brokers at MoreMore finance to get more information.
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