How do you calculate the affordability of a mortgage?

The golden formula of affordability

The affordability of a mortgage is calculated using the formula: (imputed interest + service charges + amortization)/gross income x 100. This percentage may not exceed 33%. The special thing about Switzerland is that banks do not expect the current low market interest rates, but an imputed interest rate of 5%. This ensures that you can still finance the mortgage even if interest rates rise sharply in the future.

The three pillars of real estate costs: What goes into the bill

In order to calculate affordability, the bank prepares a hypothetical financial statement for your property. These total costs consist of three different items:

• The imputed interest rates: This is the biggest job and the biggest hurdle at the same time. Regardless of how cheaply Saron or fixed-rate mortgages can actually be concluded at the moment, the bank expects a long-term security interest rate of 5% on the entire mortgage amount as standard.
• The imputed service charges: Banks estimate a flat rate of 1% of the total property value (purchase price) per year for the maintenance and operating costs (heating, electricity, insurance, repairs) of the property.
• The amortization: In Switzerland, the so-called second mortgage (the amount that exceeds 65% of the property value) must be repaid within a maximum of 15 years or until retirement age is reached. This mandatory repayment is also added to the fixed costs as an annual amortization.

A specific calculation example from practice

A classic calculation example for an average condominium in Switzerland shows just how relentlessly this formula works in reality.

• Purchase price of the property: CHF 1,000,000
• Existing equity: CHF 200,000 (20%)
• mortgage required: 800,000 CHF (loan-to-value ratio)

This results in the following imputed annual costs for the bank:

The 33% rule now applies. The 55,000 francs annual costs must fit into a third of income. This means that the mathematically required gross income is calculated as follows: 55,000 CHF x 3 = 165,000 CHF.

If a couple or an individual earns less than 165,000 francs gross per year, the bank rejects financing for this multi-million dollar property — even if the effective interest costs would perhaps only be 15,000 francs a year at the current market interest rate.

What income is accepted by banks?

Since income forms the basis of affordability, credit specialists take a very close look at payslips. Not every franc that ends up in the account is fully credited:

• main income: The fixed basic income from unterminated permanent employment is offset at 100%.
• Bonus and one-time payments: Variable salary components such as bonuses or commissions are usually only taken into account if they have been paid out consistently over the last three years, and often only with a security discount (e.g. 50%).
• Self-employment: Anyone who is self-employed must present clean balance sheets and income statements for the last three to five years. The bank makes an average of this.
• Extra income: Income from sideline work or alimony is only added under strict conditions and if it is proven to be long-term.

In the case of couples (joint ownership), both incomes can be added together. However, banks are critically examining whether income remains sustainable even if family planning is pending in the near future and a partner drastically reduces the workload.

Strategies to improve affordability

If the bank's financing calculator says “no,” there are various legal adjustments to positively influence affordability:

• Bring in more equity: The more equity you deposit, the lower the required mortgage amount. A smaller loan automatically means lower imputed interest rates and a lower or completely omitted amortization obligation (if loan-to-value ratio falls directly below 65%).
• Advance withdrawal or pledge of pension fund assets (2nd pillar) or pillar 3a: Retirement funds can be used as equity to depress the mortgage.
• advance inheritance or gift: A financial injection from parents can close the decisive gap in loan-to-value ratio to reduce the loan and meet affordability.

Conclusion: affordability protects buyers and banks from collapse

Even though the imputed interest rate of 5% appears extremely high and almost unfair compared to the past few years, it is the most important instrument of stability on the Swiss real estate market. It prevents buyers from taking over financially during periods of extremely low interest rates and losing their houses to banks in rows when the market normalizes. Anyone who overcomes the 33% affordability hurdle has the reliable foundation that the property remains a safe home even in times of crisis.

Real estate financing glossary

• amortization: The gradual, contractually agreed repayment of a mortgage debt. In Switzerland, the second mortgage must be repaid within 15 years.
• loan-to-value ratio: The percentage ratio between the mortgage amount and the market value of the property accepted by the bank (maximum 80% for owner-occupied residential property).
• Imputed interest: A fictitious interest rate (usually 5%) defined by banks for security purposes, which is used to calculate long-term affordability.