With the home loan market constantly changing, there is a chance that you may no longer have the most suitable home loan.
Regularly reviewing your home loan and seeing what other products are available is a great way to save more money and even pay off your home loan sooner.
Refinancing sometimes referred to as switching, is when you change home loans to an option that better suits your needs. This is often done to secure a more competitive rate, better features or superior customer service. Refinancing allows you to change lenders part way through the loan term and could potentially save you thousands of dollars in interest over the life of the loan.
Find a lower interest rate: This is a prime reason for refinancing. A lower interest rate could save you a substantial sum over the life of the loan and help you pay off your home loan quicker. Try this simple calculator to see what difference a drop in rate can make.
Find a loan with better features: When you first took out your home loan, things like an offset account, fixing your rate, interest only repayments and free redraw may not have been a priority. Over time your priorities change and getting a loan with more features could actually help you save money and pay off your home loan faster.
Find a better lender: If you are not happy with the experience you receive with your current lender, you don’t need to stay with them. Without early exit fees you are free to find a lender who provides superior customer service.
Consolidate debt: If you having trouble paying off smaller debts with high interest rates, you can increase your home loan and use the money to pay them out. This could give you some valuable breathing space and a single repayment, allowing you to focus on paying it off as quickly as possible.
Access equity: Some borrowers refinance so they can access the equity that has been build up in their home. The additional funds can be used for things like such as renovations, a holiday or a new car. The interest rate that is paid can be a lot lower than a personal loan or car loan.
Invest elsewhere: Once you are getting close to paying off your home loan, you may wish to borrow funds to invest in another property or shares or managed funds. This could be a cheaper option than most margin loans and come with a lot less restrictions like margin calls.
Cost of refinancing: Unfortunately, the cost of refinancing to another loan or lender may can add up. There are fees to both exit your current loan and setup your new loan and if you don’t do your calculations, or refinance too often, you may end up spending more than the money in fees than you have saved in interest chasing a lower rate.
Increased loan term: When refinancing, you can choose a different loan term. If it is longer than what is remaining on your current loan, then even though the interest rate may be lower, you could end up paying more over the life of the loan. To avoid this, resist the temptation to increase the loan term, even if repayments are a lot lower.
Consolidated debt costs you more: If you have increased your loan to payoff other debts, you need to focus on paying this off quickly and not just revert back to making minimum repayments on the new loan amount. If you do you could end up paying a lot more in interest and spread this debt over 20 years or whatever the loan term you choose.
Could damage your credit history: If you put in a home loan application without doing your homework first, you could end up applying with more than one lender. Any credit enquiries are recorded on your credit report so additional applications, along with applying for other types of credit, can result in a large number of enquiries which can damage your credit score.
Lose equity due to poorly performing investments: Borrowing against your home loan to invest can be a cost effective strategy but if your investments perform poorly, the interest you pay could outweigh the income and capital gain from the investment. Worst case, if the investment turns sour you could be left with a loan after the investments are sold.
Only submit a formal application with the lender you intend to go with. Multiple credit enquiries can have a big impact on your credit report.
When refinancing your home loan, what your property is currently worth will determine how much you are able to lend and even whether you can refinance or not.
The more equity you have, the better. If you are able to borrow 80% or less of the property’s value not only will you avoid Lender’s Mortgage Insurance, but you may also receive a more competitive interest rate.
Most lenders will only refinance loans up to 90% of the value of the property. Even then, mortgage insurance will be charged and could add to thousands. If you borrowed a high proportion of the purchase price and property values haven’t increased you may find that you are unable to refinance or the cost of having to pay mortgage insurance again may outweigh the benefit of a lower rate.
The lender will have a valuer complete a valuation of the property to determine its value. To research the value yourself upfront you can:
- Research recent sales of similar properties in your area. It is the amount that a property actually sells for that is relevant, not a list price for a property currently on the market. In your research collate a list of properties that have sold particularly focusing on what has sold within the last 6 months.
- Compare like for like. When you are looking at sales of similar homes to your own, ensure that they are comparable. The sort of things to look for is properties with a similar land area, type of construction, number of bedrooms and additional features. If the homes you are looking at have more or less going for them than yours, you will need to adjust the value accordingly. A real estate agent may be able to assist with how much these features or improvements would impact the value.
- Get reports that include sales data. There are a large number of reports available online that will provide estimates of what your property is worth along with recent sales to back up the estimate. Real estate agents also have access to data on recent sales.
Take a look at our blog, Tips to improve your valuation to get some ideas. Click here
What is equity?
Equity is simply the difference between what you owe on the home loan and what the property is worth. For example, if you have a property that is worth $400,000 and you owe $250,000, your equity is $150,000. You can grow your equity by either the value of the property increasing over time or reducing how much you owe.
Although refinancing your home loan could potentially save you a lot of money, there are some costs involved. These fees may include:
- Exit fees: If your home loan was taken out before 1 July 2011 there may be early exit fees. However, the Government abolished these fees for loans taken out after this date.
- Break costs: For those within the fixed period of a fixed rate home loan, you may be charged a 'break cost' if you refinance.
- Discharge fees: This fee is charged by most lenders when the loan is closed. These will be outlined in the loan contract.
- Loan setup fees: When you refinance, the new loan may have upfront setup costs that you will be required to pay. The most common fees include loan application fee, valuation fee, title insurance and/or a settlement fee.
- Lender's Mortgage Insurance: If you refinance and your loan is still above 80% of the value of the property, your new lender will still charge LMI. This is probably the biggest reason why people choose not to refinance as the cost can add to thousands and can negate the benefit of refinancing to a lower interest rate.
- Government Fees: State Governments charge a mortgage registration fee when you refinance. It is charged twice, once to remove the old lender and once to register the new.
To calculate whether it is financially worth refinancing or not, calculate the interest saving per year on the lower rate and put a value on savings that come with any additional features. Add up the refinance fees above and any additional ongoing fees. Compare the two figures to determine how many years it will take to benefit from refinancing.
Find out in detail about what each of these fees mean and more.
- Don’t refinance dollar for dollar. If you apply to refinance exactly what you currently owe, you may be left to fund a shortfall at settlement. The payout figure on your old loan could be higher than what you currently owe due to the discharge fees and interest that has accrued on the old loan that hasn’t been paid yet.
Borrowers can forget that the interest that is charged on their loan is in arrears, which means that interest is calculated daily but only charged to the loan at the end of the month. If you don’t want to use your savings to fund the shortfall, always choose a higher loan amount to ensure there is sufficient funds. Your lender should be able to help with the calculation.
- Keep the same remaining term. When refinancing your current loan, pay particular attention to the new loan term. If you don’t pay attention you may be signing up for the maximum loan term and although the repayments may be less, you will end up take a lot longer to be mortgage free.
- Don’t make minimum repayments if you have consolidated debt. Paying out high interest debts can be a relief but if you don’t focus on paying the extra amount off, you will be spreading this cost over the term of your home loan. Instead, ask your lender to tell you how much you need to pay extra to pay the additional amount off over a few years.
A home loan that can be split into portions, can be handy to separate the amount you owe on your home from debt that you have consolidated. By having it in a separate account, you can focus on paying it off quickly.
- Don’t refinance too often. Refinancing can be a vicious cycle of chasing the cheapest interest rate. Each time you refinance you are incurring costs plus you are getting enquiries on your credit report. Refinancing should only be undertaken after careful consideration.
- Consider the buffer you need. If you have paid extra and have redraw available, you will need to consider if you want to maintain this or not. If this is your emergency fund, then you still may want to have access to it. To do this you will need to ensure that the loan amount doesn’t include the redraw.
- Think about reducing your loan amount. People who are focused on paying off their home loan quicker can use the discipline of losing access to redraw in order to take away the temptation to spend it or secure a cheaper rate. Ask your lender if borrowing less will come with any advantages.
- Choose conservative investments. Borrowing to invest comes with risks. It may be wise to get financial advice and invest conservatively so that you don’t end up with a loan remaining after the investments are sold.
- Get financial advice. If the loan is for an investment property, it may pay to consult your accountant to ensure that the amount you refinance for and the features of the loan don’t jeopardise the tax deductibility of the loan.
- Be realistic about the value of your property. Just because a neighbour’s property sold for a certain amount a few years ago doesn’t automatically mean that this will be what your home is worth. Do your research before you apply so you don’t end up paying the cost of the valuation only to find that the value comes in a lot lower.
- Crunch the numbers before applying. With all the changes to lending policies, you may no longer lend the amount you have qualified for in the past. Although the changes have impacted investment loans the most, things like factoring higher repayments on other loans or needing to provide a lot more information on what it costs you to live can reduce what you can borrow. To avoid disappointment, get all the calculations done upfront before you apply.
Shop around. Lenders are regularly changing their home loans and introducing new products, so it’s worth keeping up to date with what is available. You may consult a broker but also do some of your own research online to ensure that you are considering loans that are not sold through brokers as well.
Do not send in multiple applications. If you are interested in a home loan, make sure that you have fully researched it first and only apply after you are certain that you will qualify. If you have multiple home loan application enquiries on your report, it may give other lender the impression that you have been declined, which may affect your chances of getting a home loan.
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Don’t apply for more credit. During their assessment, lenders will use all available credit limits as though they were fully drawn. This could impact your affordability with your new lender. Don’t forget the limit on interest free deals are also factored in even if the repayment for the foreseeable future is very low.
Don’t change jobs. Lenders need to ensure that you can meet the loan repayments and will be looking carefully at your income. The important thing is stability so if you have changed jobs recently they will look at how long it took you to find a new job and whether you are in a similar role in the same industry. You may be required to have started your new job or have been in it for a while or even past probation before the lender will be comfortable using your income.
Get your paperwork ready. You can reduce the waiting time and speed up the process by providing your lender with all of the required supporting documents in one go. Start holding onto your payslips, payment summaries, mortgage statements and the like as these will probably be needed.
Find the right lender. Finding a lender that understands what you are looking for and will take the time to explain the benefits can be a big help. If you are speaking to the lender direct, use all your conversations with them to determine if they are the right lender for you. Alternatively you can check reviews online to see how existing borrowers rate their service.
Have more questions?
Take a look at our answers to the top refinancing questions.
State Custodians offers very competitive home loans, with a broad range of features and we have a team of Lending Specialists ready to answer any questions you have. Check out our home loans or call on 13 72 62 to chat to a lending specialist about refinancing.