What is refinancing and why should you do it?
The reasons people look to refinance their mortgage are many and varied. Interest rate savings are the most common, but there are other reasons too, such as:
- To lower the monthly repayment: Fixing the interest rate when rates are low could save you thousands over the term of your loan. You can also lower your monthly payment by extending your loan term. But while spreading your loan repayments over a 30 year term as opposed to a 25 year term will reduce your monthly commitments, you will pay more money in the long term.
- To consolidate debts: This is done by repaying all your existing credit cards, personal loans, car leases and other debts and replacing them with one loan, which could result in a significant saving., because personal loans and credit card debt are some of the most expensive forms of finance. Debt consolidation simplifies your outgoings and makes it easier to budget (not to mention to deal with at tax time) and it can result in big savings.
- To feel more ‘love’: Some people like friendly, personalised service and some lenders are better at this than others. If you and your lender a not a good ‘fit’ then maybe it’s time to look further afield and find a mortgage provider you can relate to.
- To tap into the equity: This is a common strategy amongst property investors. Over time you build up equity in your home. You can release it and use it as a deposit on another property, as you work to build a property portfolio.
Each of these circumstances are perfectly valid reasons to refinance. But refinancing should be done with a reasonable degree of caution and a lot of research.
The costs of refinancing can be significant. Your existing loan will have ‘exit fees’, also sometimes called ‘break fees’. Exit costs on a home loan refinance will also vary greatly depending on whether you are in a variable or fixed rate loan. While the government banned early exit fees on variable rate loans for loans entered into from 1st July 2011, there are still many borrowers with home loans entered into prior to this, and early exit fees may still apply. A new loan also has costs associated with set up.
So, the key message here is, don’t do anything until you completely understand the costs associated with switching. Read the fine print of your loan contract and check all the costs first. Because short term gain can mean long term pain if you don’t look carefully at all aspects of your loan.
A better interest rate is one thing (and let’s not discount it’s importance) but actually having a loan that works for you, in your particular circumstances, is quite another. Often lower-rate loans are not as flexible or as well-featured as other loans which might have slightly higher interest rates, for example an offset account may not be available. And an offset account is a particularly handy feature which can help you reduce the interest you pay if you use it as it was originally intended, plus it also gives you access to your money when you need it. So work out what features you have and what you want, because sometimes you need to compromise on the best interest rate to get a loan that’s more appropriate to your needs.
Something else to consider is your loan-to-value ratio. This relates to the amount of equity in your home and the market value of your home. If the balance of your loan is around 80% of the property’s value, it is entirely possible that your new lender could value the home more conservatively. If this is the case, then you would be required to pay lenders’ mortgage insurance, and this could offset any potential gains of a lower interest rate. If your LVR is less than 80% this is not necessarily going to be a concern.
An online mortgage calculator will give you a broad idea of the impact of switching loans but it’s always best to get professional advice, particularly because comparing loans and rates and features is not only time consuming, it can be complex. Spending time with a mortgage broker can make all the difference., because their knowledge of products across a range of lenders will benefit you greatly in your decision to refinance. It’s a very good idea to review your loans from time to time – about every 3-5 years – because your life changes, your circumstances change and your mortgage should service your financial needs.
It’s a very good idea to review your loans regularly – an annual home loan health check – a quick five to ten minute conversation with your mortgage broker annually will make sure your mortgage is working for you because your life changes, your circumstances change and your mortgage should service your financial needs.