Owning a property is the Great Australian Dream. Home-ownership is perceived to be the pathway to a better life, one full of success and security. While we all want a part of this dream, for most potential homeowners the only way to enter the property market involves borrowing funds. When sourcing the best mortgage for your personal circumstances, there are a lot of options available and a lot of potentially confusing terminology used. We, therefore, thought a quick outline of some of the wording you will encounter when getting a mortgage could be beneficial.
Principal and Interest Loan (P&I)
A P&I Loan involves paying the interest cost plus paying down a further amount off the loan. For mortgages over your home, a principal and interest loan is most common, and the amount of principal required to be paid will depend on the loan term.
Interest Only Loan
This loan type involves paying the interest on the loan only and not the loan amount. The lender may limit the interest-only period to a few years. These loans are generally limited to investment and may not be available for your primary home.
Loan terms are the number of years you have agreed to repay the loan over. Common term lengths are 20, 25 and 30 years. The loan term is used to calculate the principal payment required for P&I loans.
Variable Rate Loan
A variable rate loan involves maintaining flexibility and not locking in your interest rate. This could mean your interest rate reduces or increases over time, but this will depend on the RBA’s cash rate and/or any changes made by your lender.
Fixed Rate Loan
A fixed rate loan is where you lock in an interest rate for a fixed term. If interest rates subsequently increase or decrease it won’t affect your repayments as your interest rate is locked in.
A redraw facility allows you to draw back down (redraw) any payments you have made on the loan amount.
For example, let’s say you started with a $300,000 loan and over time you reduced the loan to $250,000. A redraw facility could allow you to draw down the loan by $50,000 (back up to $300,000) should you require funds for such things as renovations.
An offset account is a separate account (similar to a bank account) whereby the balance of the account is offset against the loan amount for interest purposes. For example, if you have an outstanding loan of $300,000 and an offset account with $100,000 in it, you will only be charged interest on $200,000.
Depending on the size of your deposit some lenders will require the borrower to take-out Mortgage Insurance. This is to protect the bank should the borrower be unable to repay the loan and is an additional cost to the borrower.
This involves a third party (generally parents) offering to guarantee the loan should the borrower (their children) be unable to pay. This can be an option to avoid the extra cost of Mortgage Insurance but does mean the parents are liable to repay the loan should the children be unable to.
Tips for repaying your mortgage quicker
Now that you have a better understanding of some of the terms you are likely to hear when looking to borrow, it is worthwhile looking at a few ways you may be able to pay off your loan quicker.
By having your (and/or your partner’s) salary paid directly into an offset account you will ensure your interest costs are reduced, and any monthly savings are used to reduce the interest you pay.
By paying your mortgage fortnightly instead of monthly, you could save thousands of dollars over the life of your loan. For example, a $500,000 loan with a 4.5% interest rate with fortnightly payments will be paid off 4 years and 5 months quicker than if paid monthly. Furthermore, you would save over $70,000 in interest. Visit https://www.mortgagechoice.com.au/home-loan-calculators/fortnightly-repayments-calculator/ to see how much you could save.
You can regularly check your interest rate to see if a better deal is available. Even a small % reduction in your interest rate over the life of a loan can save you thousands.
For example, on a $500,000 loan over 30 years a small 0.25% reduction in your interest rate will save you $26,500 in interest.
Before changing your loan provider be aware of loan break costs, mortgage discharge fees and other costs as interest rates are not the only consideration that needs to be factored in.
If you’ve earned a bonus, managed to save some money, or received an inheritance making extra repayments off your loan may be a good strategy for you to pursue. We have outlined this and more options in our recent article which you can access via the button below.
If there is any terminology you find confusing, please contact your adviser for more information. We want you to be fully prepared and in the know.