Here are six ways to save money on your home loan
OPINION: In a perfect world, your bank would tell you to break off your loan whenever you could save money by resetting at a lower rate.
It will always offer you the best rate when your loan matures. It would tell you when to reduce your variable rate balance or change it to a fixed rate, and 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. Here are seven things to consider.
Fixation when interest rates rise
With interest rates set to rise, consider spreading your loans between different fixed rate terms. By doing this, all of your loans do not fall due at the same time. It gives you the advantage of low short-term rates as well as the certainty of locking in some long-term rates.
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Longer-term fixed rate loans are usually higher, especially when it looks like rates will rise. However, rates usually do not rise as quickly as the rate difference suggests. In other words, fixing for shorter terms tends to lower interest charges over the life of the loan, even in an environment of rising rates.
Longer-term fixed rates delay the impact of rising rates, which can be useful in the short term if, for example, you’ve switched to one income.
Sneaky floating rates
There is no logical reason for variable rates to be more expensive than fixed rates. This is a trap for borrowers who do not review their mortgage.
When a fixed rate home loan matures, it automatically switches to a variable rate. For most banks, the variable rate is around 4.5% versus 2.49% for a one-year fixed rate. The opportunity cost of sitting on a variable rate is surprisingly high. For a loan of $ 200,000, that would equate to $ 4,000 per year.
Often, borrowers will have a revolving credit or compensatory loan (which is also variable rate). With the best of intentions, they may have accumulated a large unpaid balance that realistically won’t be paid off anytime soon. In this case, it makes financial sense to restructure the loan and fix the outstanding balance at a much lower rate.
Low deposit no more
If you have bought in the last two or three years, the value of your property will have increased significantly. If you bought with less than 20% deposit, chances are you now have more than 20% equity and access to better rates.
First, determine if you have more than 20 percent of the equity in your home. QV or Homes.co.nz can give you the approximate value of your home. If your loan is less than 80% of the value, you could be a winner. Banks offer lower interest rates to people with more than 20% home equity.
If you’ve had higher rates, consider breaking your loans to get a better deal. With 20 percent equity, you have the ability to negotiate rates and will no longer pay a low equity premium.
Second, as a low deposit buyer, you will only receive a small cash back, if any. Now with over 20% equity, you could get a much larger cash contribution by refinancing with another bank while getting better rates.
As an example, I recently helped a couple refinance. They had bought with a 5 percent down payment and set for three years at 4.3 percent. Although they now easily had 20 percent equity, they had had no contact with the bank with a fixed term remaining of one year. We were able to refinance them and save $ 18,000 net over the next year, or $ 1,500 per month.
Breakdown of your fixed-rate loans
There is a calculator at www.mortgagerates.co.nz which allows you to calculate the benefit of breaking your existing fixed rate home loans and refinancing. If you still have a high fixed rate maturing, the break fee will have decreased over the past eight weeks and you may still have the opportunity to take advantage of low rates.
When you get a home loan, part of the offer includes cash back. The bank gives you a cash contribution that can amount to several thousand dollars. The only downside is that they can get it back from you if you sell or refinance within three or four years, depending on the lender.
If you haven’t reviewed your mortgage for a while, consider not only the possibility of getting a better rate, but also the possibility of getting cash back. Of course, it’s a little inconvenient to change banks, but the financial benefit can be worth it.
Although interest rates rise, borrowers can reduce the impact by putting away and reducing their other financial commitments. Consider consolidating auto loans, personal loans, or credit card debt into the home loan. At the same time, it cannot be an excuse to take on more consumer debt. Avoid consumer credit debt, including interest-free offers. It still has to be paid off and it will impact cash flow which can be difficult if you are also facing higher home loan repayments.
Finally, in an environment of rising rates, shop around. As rates rise, banks react at different speeds, so there can be a big difference in interest rates as you take action. A Mortgage Advisor (aka Mortgage Broker) is a great resource to help you quickly, and they’ll know all the options right off the bat.
John Bolton is Managing Director of Squirrel and a member of the Board of Directors of Financial Advice New Zealand.