So, you’ve decided to buy a house. Choosing between polished wood and carpet is one thing. Getting your head around the logistics of financing your house is a whole other ball game.
To give you a head start, I’ll take you through some key mortgage terms.
Let’s start with the basics. What exactly is a mortgage?
A mortgage is a legal agreement between the property owner and the lender, such as a bank or building society, where the property owner gives the lender the power to sell the property if the borrower defaults. The agreement is void when the loan is paid back in full.
A fixed-rate is when the interest rate is fixed (unchanging) for the term of the agreement. A two-year fixed rate will be fixed at a certain rate for two years, for example. The advantage of a fixed rate is that you know how much interest you will be expected to pay. The downside is that rates can go up and down, so you take the risk that you will miss out on interest rates falling. Usually, you weigh up the security of knowing your interest rate against the risk of paying more in interest.
Variable interest rate
A variable interest rate is flexible, meaning it is subject to change. Your interest rate may vary depending on market and economic factors. The rate is set by your lender and can either go up or down. The risk is that your interest repayment can increase beyond your means, so make sure you’ve considered this possibility.
Deposit (Funds to contribute)
The deposit is the amount you put down to secure your property. The typical deposit is 20 percent of the value of the house, although there are ways of making a smaller deposit, such as taking out lender’s mortgage insurance or using a guarantor. The deposit amount can vary from lender to lender and might be dependent on your financial situation.
Lender’s mortgage insurance (LMI)
Lender’s mortgage insurance (LMI) is not your personal insurance on the house. The LMI is insurance taken out by the lender to protect them against the loan defaulting. LMI is often required if you take out a mortgage which is more than 80 percent of the value of the house. You will be charged LMI, which will bring your repayments up.
The principal is the amount of your loan, without interest.
RBA cash rate
The RBA cash rate is a monthly target, which is set by the Reserve Bank of Australia. It provides a benchmark for Australian financial institutions and reflects the inter-lender rate banks use to borrow funds from other banks. The cash rate can be affected by national debt levels, employment rates and inflation. If the cash rate increases, your variable interest rate might also increase.