Why you should revisit your loan during the COVID-19 crisis
As we face the difficulties of this global health crisis, there are a few positives to hold on to – more family time, being less busy and even random acts of kindness in our communities.
There is also an opportunity to potentially save money by refinancing your home loan, or making additional repayments, thanks to record-low interest rates and the competitive lending environment.
Interest rates are at record lows
To boost the economy during this uncertain period, the Reserve Bank of Australia (RBA) made two rate cuts in quick succession in early March, bringing the cash rate to just 0.25%. The aim was to reduce mortgage repayments for borrowers so that they would have more money to spend on other things, which should help to prop up our economy. In addition, banks are competing hard for new customers right now. As a result of all this, interest rates are the lowest they’ve been for over 70 years.
How can you maximise your savings?
If you want to take advantage of the low rates to improve your financial position, here are a few things you could do:
1. Make additional repayments:
Steadily decreasing interest rates over the past few years mean some borrowers have accumulated extra savings. If this is the case for you, and your income is secure despite the COVID-19 crisis, it could be a great opportunity to pay down your loan more quickly by increasing your repayments.
Making additional repayments will save you in the long run because it reduces your loan term and therefore the amount of interest you pay overall, as you can see from example 2 below.
2. Switch to a fixed rate:
Many lenders are offering extremely low fixed rate deals at the moment, with comparison rates as low as 2.91 per cent. So if your financial and personal circumstances allow, switching could save you a lot of money. Fixed rate loans are less flexible and are not usually suitable if your circumstances are going to change as you can incur high fees if you break your loan contract. The RBA is forecasting that economic growth should start improving by next year, so if rates are now as low as they are likely to go, switching to a fixed interest rate on your home loan could be a great opportunity to lock in these savings for up to five years.
3. Split your rate:
If you would prefer some flexibility, you could consider a split rate loan. This involves fixing a portion of your loan, but leaving the other portion on a variable interest rate. This allows you to make additional repayments or redraws on the variable portion of your loan, or even to refinance that portion of the loan if your plans require it.
4. Negotiate with your lender:
The virus crisis has intensified competition between lenders for new customers as their businesses are struggling just like many others. This puts borrowers in a strong position to negotiate on interest rates and extra loan features when arranging a new home loan or a loan refinance.
5. Refinance:
Consider refinancing with another lender: If you feel like your existing lender isn’t giving you a great deal on your loan, you may want to consider restructuring your loan or refinancing with a different lender to get a more competitive rate. There are some great deals around for both variable and fixed rate loans, especially for new customers. A number of lenders are also offering cash bonuses of up to $4000 on new loans.
If you’re on a fixed rate loan that doesn’t allow additional repayments, you may want to consider refinancing to another fixed rate loan that does. You may be able to get a lower fixed rate now than last time you refinanced. Even taking into account the significant break fees of most fixed rate loans, switching to a more flexible fixed rate loan can sometimes be worthwhile.
Example 1: Refinance to a lower variable rate
Loan #1: On an average loan of $350,000 with a variable interest rate of 3.7 per cent, monthly repayments would be $1,611. The total amount payable over a 30-year loan term would be $579,957.
Loan #2: By comparison, the same loan amount with a variable interest rate of 2.8 per cent would incur monthly repayments of just $1,438. The total amount payable over 30 years reduces to $517,727. Therefore, refinancing to the lower rate could save you $62,230 over the term of the loan.
In addition, you may also receive a cash bonus when you refinance. You could consider putting this money straight onto your home loan to further reduce the total amount you owe on your loan
Example 2: Reduce your loan term and save
Loan #1: On an average loan of $350,000 with a three-year fixed rate of 4.08 per cent, monthly repayments would be $1,687. If the loan only allows minimum extra repayments per year (up to $5,000), this limits your ability to pay off the loan more quickly and save.
Loan #2: By comparison, the same loan amount with a three-year fixed rate of 2.91 per cent would incur monthly repayments of just $1,459. Even if refinancing to this loan cost $3,000 in break and refinance fees, you would still be ahead by $2,483 after two years and by $5,224 at the end of the three-year fixed term.
In addition to this, if you refinance to a loan that allows you to make significant extra repayments (perhaps up to $20,000 per year), you could save further. If you made additional repayments of $500 per month, after just three years you will have further reduced what you owe on your loan by almost $20,000.
Savings from the lower rate
