In a perfect world, your bank would let you know every time there was an opportunity for you to save money. This could be by refixing your home loan at a lower rate, or breaking the loan before it’s due to expire. They would always offer you the best rate up front when it’s time to refix. And in that perfect world they would tell you when to reduce your floating rate balance or when to switch it to a fixed rate, plus how to avoid paying fees.
But the world isn’t perfect so it’s up to you to stay on top of your home loan. It could save you thousands of dollars. How? Here are seven things to consider.
With interest rates expected to rise, consider splitting your home loan into different fixed-interest rate terms. By doing this, your lending will come up for renewal at different times. This gives you the benefit of immediate savings with a lower short-term rate, alongside the certainty of a longer-term interest rate.
You generally pay higher interest on longer-term fixed rate loans, especially when interest rates are expected to increase. Fixing a portion of the loan for a short term (like one year or two years) tends to result in lower interest costs over the life of the loan even in an increasing rate environment.
Meanwhile fixing for longer delays the impact of increasing rates, which can be useful, if for example you expect to drop to one income at some point.
There is no logical reason behind floating rates being more expensive than fixed rates. It’s simply a trap for borrowers who aren’t on top of reviewing their home loan.
When a home loan’s fixed term expires, the loan automatically gets put onto a floating rate. For most banks the floating rate is around 4.50% compared to 2.49% for a 1 year fixed rate. The cost of sitting on a floating rate is surprisingly high. For a $200,000 loan that would equate to $4,000 per year.
Many borrowers will have a portion of their loan on a revolving credit or offset loan for payment flexibility (both of which are also on floating rates). With the best intentions in the world, they may have built up a significant outstanding balance that won’t realistically be paid back anytime soon. In this instance, it is financially smart to restructure the lending and fix the outstanding balance at a much lower rate.
If you purchased a house in the past two or three years, the property will have gone up significantly in value. And if you bought with less than a 20 percent deposit, then chances are you now have over 20 percent equity and access to better rates.
How can you figure out how much equity you have in your home? Firstly, check the total of how much you owe on your home loan. Then qv.co.nz can tell you the approximate value of your house. If your loan is less than 80 percent of the value, you’re winning. Banks offer lower interest rates to people with more than 20 percent equity in their home.
If this is you but you’ve been paying higher rates due to buying with less than 20 percent, then consider breaking your fixed term to get on to the lower rates. With 20 percent equity you have the scope to negotiate and will no longer be required to pay a low equity premium.
Secondly, as a low deposit buyer you will have only received a small cash back from your bank, if any. Now with over 20 percent equity, you could get a much larger cash contribution by refinancing to another bank at the same time as getting better rates.
As an example, I recently helped a couple refinance. They had purchased with a five percent deposit and fixed for three years at 4.30%. Although they now easily had 20 percent equity, they had had no contact from the bank with a remaining fixed term of a year still to run. We were able to refinance them and save a net $18,000 over the next year, or $1,500 per month.
There is a calculator at www.mortgagerates.co.nz that lets you calculate the benefit of breaking your existing fixed rate home loans and refinancing. If you still have a high fixed rate which is yet to expire, break fees will have fallen over the last eight weeks and you may still have the opportunity to take advantage of low rates.
When taking on a home loan, part of the offer from the bank will include a cash back. They literally give you a cash contribution that could be several thousand dollars. The only hook is that they can claw it back from you if you sell or refinance to a different bank within a three or four year period, depending on the bank.
If you haven’t reviewed your home loan for a while, take into consideration not only the opportunity to get a better rate but also the opportunity to get a cash back. Sure it can be a bit a headache switching banks but the financial benefit can make it worthwhile.
Although interest rates are increasing, borrowers can reduce the impact by tidying up and reducing other financial commitments. Consider consolidating car loans, personal loans or credit card debt on to the home loan. In saying that, tidying up these debts shouldn’t be an excuse to take on more consumer debt. Avoid consumer finance debt including interest-free offers. It still needs to be repaid and that will impact on your budget which could be tough if you’re also facing higher home loan repayments.
Finally in a rising rate environment, it pays to shop around. As rates go up, banks respond at different speeds so there can be a big difference in interest rates at the time of taking action. A mortgage adviser (aka mortgage broker) is a great free resource to get you over the line quickly and they will be familiar with all of the options available to you.
This article was originally written by John Bolton for Stuff and the original article can be viewed on stuff.co.nz.