Is it time to refinance your home loan?

The Australian home loan market has quite a few products with interest rates of around 2.5 per cent p.a. right now, which is something of a drop from the usual 3.5 per cent p.a. deals seen in recent years. 

In addition to these cheaper mortgages, lenders are competing with each other to offer not just low rates, but low fees, plus perks and features. If you’re thinking about refinancing your home loan, or if your current deal is coming to an end, the timing couldn’t be better. 

Why refinance at all?

It can take a bit of time and effort to find the right refinance deal, as well as some money if there’s fees involved, so you have to look at the potential benefits.

Saving lots of money

This is the biggest benefit. Your new home loan could be cheaper because it has a lower interest rate or lower fees – ideally both. 

One example is paying a mortgage of $400,000 with an interest rate of 3.29 per cent p.a. over 30 years. The monthly repayments are $1,750 and you’ll pay a total of $630,000 in principal and interest over the 30 years.

Three years later you refinance to the UHomeLoan 2.14 per cent p.a. deal (comparison rate 2.41 per cent p.a.) for the $375,000 balance for 27 years. Your monthly repayments decrease to $1,585 and you pay a total of $513,600 in principal and interest. The old mortgage cost around $36,000 in interest, but even with this added, you’ll be saving around $80,000 over the rest of the mortgage.

You can repay your home loan faster

If you refinance to a lower rate, you can carry on paying the old amount each month to chip away at your principal faster. Even if you pay half of the difference, you’ll still shave a few years off the end of the mortgage term, which reduces your total interest burden.

You could release some equity

Your equity is the difference between the outstanding amount of mortgage you have and the value of the property. Ideally, equity increases as you pay off down the mortgage and also as your property value rises. 

If you refinance to unlock some equity, your lender will look at your loan–to–value ratio (LVR), which is the value of your property minus the outstanding mortgage. The maximum LVR most lenders are comfortable with is 80 per cent.

To understand this better, think about a property that’s worth $800,000 with $300,000 outstanding on the mortgage. This gives the owner an LVR of 37.5 per cent, so in theory, the lender could refinance the property up to 80 per cent of its value. In practice this would mean an equity release of up to $340,000. 

Refinancing could repair your finances

It may be that you simply want to reduce your mortgage repayments, or you may be looking to consolidate several debts under your mortgage’s interest rate.

Most credit cards have interest rates of around 20 per cent p.a. and loans are around seven per cent p.a. so applying a lower interest rate to your outstanding debts can save you money. It also means you have only one payment to contend with and one set of fees.

Be aware, though, that consolidating loans and credit card balances into a mortgage means that you could be paying off these debts over 20 years or more, which could mean more interest than you’d pay otherwise. 

You could move away from a bad credit mortgage

Thankfully there are products out there to help homeowners with poor credit ratings or even mortgage defaults, but these specialist home loans are temporary solutions and they do have higher rates than usual. Once you’re back on your feet, you’ll probably want to refinance to a “regular” home loan with a lower interest rate.

You could find better features

Mortgages are always improving and if you’ve been on the same deal for a while, the products around you might have moved on, so it’s probably time to catch up so you can benefit from some of these extra features.

An offset account

Offset accounts are savings accounts and the money in that account is offset against your mortgage balance. For example, if you have a $300,000 mortgage and $25,000 in an offset account, the mortgage lender calculates interest on $275,000 of your mortgage. This reduces your monthly interest, so more of your payment goes to the principal amount and pays your home loan off sooner. Mortgages like the Well Balanced Home Loan let you link an offset account.

An overpayment facility

Even small overpayments can lead to big savings over the course of a home loan. If you have a 30–year $400,000 mortgage at 2.49 per cent p.a. your monthly repayments will be $1,579 and you’ll pay $568,000 over the lifetime of the loan. By making a monthly overpayment of just $50, you’ll shorten the loan by 16 months and save more than $8,000 in interest.

You might find a nice package

Some loans let you bundle together several financial products from the same provider for just one fee. This could include transaction accounts, credit cards, insurance policies and so on. Very often you’ll get additional discounts on the mortgage itself, too.

When it’s not time to refinance

It’s not always the right time to switch mortgages as you might end up paying more.

If you have a fixed rate loan and it’s not about to end

Breaking a fixed rate deal early means you’ll probably have to pay discharge and early termination fees. Depending on how much longer your current deal has to run, the early termination fees can run into tens of thousands. There’s also the set–up fees for the new deal, which can add up to $1,000 or more. Even variable rate loans, which don’t have break fees, can have expensive set–up costs.

If your new product doesn’t have many extra features

One of the benefits of refinancing is to get some handy new features like an offset account or an overpayment facility. You might find a really low rate that you like but if you can’t make extra payments, it might not be worth it. 

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