Couples who buy engagement rings using personal loans could be jeopardising their ability to secure a home loan in the future.
Banks wary of risky borrowers are more reluctant to lend to first-home buyers with existing debt and minimal deposits, experts say, potentially locking some borrowers out of the market.
For some lovebirds looking to start a life together, a personal loan may seem like the only option to pay for an engagement ring – a purchase that could be the most expensive they’ve ever made.
But considering the long-term consequences of a personal loan, it may not be the wisest move for prospective home buyers.
The costs of engagement
The average engagement ring costs $5134, according to the 2018 Australian Wedding Industry report.
However, one in four households have less than $1000 in cash savings, while two in three Aussies could not easily raise $3000 within a week of an emergency, according to MEBank’s latest Household Financial Comfort Report.
About 50 per cent of Australians have no money left in the bank after they’ve paid for the essentials in life, according to ME Bank consulting economist Jeff Oughton.
Personal loans can provide cash-strapped Australians with the ability to pay for expensive one-off purchases, such as cars, holidays or, in this case, jewellery.
Figures from the Reserve Bank of Australia show it’s a $145 billion industry and, according to comparison site Finder, about 15 per cent of Australians have a personal loan.
The high interest rates of personal loans – often more than double that of a typical home loan – mean a borrower could end up paying up to 36 per cent more over the life of the loan than what they would pay if they used cash instead.
A recent ad by a major bank – which included both a holiday and marriage proposal in its imagery – offered personal loans at 8.99 per cent.
On these terms, an average-priced $5134 engagement ring would end up costing about $7000, once five years of interest and fees are included.
Debt dampens borrowing capacity
An extra $1866 might not seem like a lot in the grand scheme of things, but it’s the ongoing repayments that have the greatest impact down the track.
Many couples typically marry, buy a house and start a family within a few years, compressing some of the most expensive moments of life into a relatively short period.
While personal loans and credit cards may provide the means to fund the engagement ring, wedding and honeymoon, they can come back to haunt borrowers when they apply for a mortgage.
House hunters with personal loans may find they need to put off buying a home until their debt is cleared, or face a diminished borrowing capacity, because existing debt is heavily scrutinised by lenders.
Rebecca Jarrett-Dalton, founder of mortgage brokerage Two Red Shoes, said borrowing to buy an engagement ring wasn’t uncommon, but an applicant’s level of debt could affect the size of the home loan mortgage they were offered.
“A first-time loan has a big impact for different people,” she said. “If you’re looking to buy a home, it impacts. It cuts into your capacity to repay.
“If you’re a first-time home buyer and you had a minimal deposit, it’s going to lock you out.”
Jarrett-Dalton said all debt mattered when applying for a home loan, not just personal loans.
Banks analyse the expected future repayments of personal loans and credit cards when assessing an applicant’s ability to borrow, and the more debt an applicant has the less they’ll be able to borrow to buy a home.
“If it is a $10,000 loan, it may be $80,000 impact,” Jarrett-Dalton said. “It changes the type of property you can qualify for.”
Finder’s Bessie Hassan said the best way to pay for an engagement ring was savings, but personal loans might be better than other forms of debt for one-off purchases.
“Generally personal loans have lower interest rates than credit cards, but do keep in mind there may be application and ongoing fees that you need to factor into your decision,” she said.
“The fixed term gives you a more structured repayment schedule and means you can more easily factor it into your budget.”
Alternatively, house hunters could put off buying an expensive engagement ring until after they’ve secured a home, or even buy the home before getting engaged, a move that’s becoming more common.