Refinancing 101
If you have a mortgage, you may have heard from your neighbours, on the news reports and even the federal treasurer keeps talking about refinancing to get a better home loan deal.
First some facts, according to the latest report from Productivity Commission on Mortgages, an average borrower could save over $1000 a year by refinancing, should you be considering it too? There are many situations in which refinancing your mortgage may be right for you - let's go review some:
What is refinancing?
When you refinance your mortgage, you are basically changing from your existing bank or lender to a new one. These are the main types of refinancing:
Balance refinance:
The remaining balance on your current mortgage is transferred into a new loan that has a better rate and/or term for your situation.
Cash-out refinance:
You liquidate some of your home’s equity, creating a new loan that consists of your previous mortgage balance plus the cash-out amount you took out.
Equity release (no Cash-out) refinance:
You use the equity from your existing property to support the purchase of another property without having to contribute any cash. If there’s sufficient equity, you can also include the cost of the purchase (Stamp duty, conveyancing etc) into the loan amount. This strategy requires the new and existing properties to be cross securitised.
You can get a refinance from any mortgage lender you choose—it doesn’t have to be from your current lender. We suggest you consider moving to a new lender when refinancing, as the best offers are reserved for what is considered a new borrower.
So why might you consider refinancing in the first place? It all depends on your goals, people choose to refinance for many reasons, here are some of the more common ones:
1. Lower repayments:
If rates have dropped since you got your original mortgage, you may be able to refinance into a loan with a lower rate. Doing so can reduce the amount of interest you pay and lower your repayments, meaning you’ll also pay less over the life of your loan.
If rates haven’t dropped significantly but you have had or anticipate a decrease in income, you may be able to lengthen your loan term to pay off your loan more gradually. For example, if you switch from a mortgage with 20 years left into a 30-year mortgage, you can make lower repayments, though it’s important to note that you’ll also have to pay interest for a longer period of time.
Lastly, has the value of your home gone up, or have you paid off a good chunk of your mortgage? With that additional equity in your home, your new loan-to-value ratio (LVR) will be smaller, which may help you get a better rate regardless of current rate trends.
2. My credit file has improved:
If your credit file has gotten a significant boost, you may also be able to refinance and get a better rate. For example, if you had to borrow with a non-conforming lender originally due to having a credit default and now the repaid default has fallen off the credit report. You maybe able to refinance to a mainstream lender for a better deal.
3. The fixed period on your current loan is expiring:
While fixed rates can save you money or give repayment certainty on your monthly mortgage payment in the early years of owning a home, once the fixed period ends, your interest rate may increase significantly. You can avoid this by refinancing to either another fixed rate or a better variable rate.
4. I can afford higher monthly payments:
In some cases, changing the length of your loan when refinancing can be advantageous. If you can afford higher repayments, thanks to an increase in income, you could refinance into a shorter loan to pay off your mortgage faster, saving thousands of dollars in interest payments over the life of the loan.
We suggest that you consider making the extra repayments additional to the standard repayments rather than reducing the term of the loan.
5. Use your equity to buy a car or boat instead of getting asset finance:
You can refinance and to use the equity you've built in your home to borrow money at a lower cost for a car or boat rather than getting a personal loan.
We suggest that you consider using the equity as a separate loan and over a short loan term than your mortgage. This will not add the interest cost of a short-term asset to the life of your mortgage.
6. Undertake home improvements or personal expense:
People often reinvest cash-outs back into their home to make improvements that boost their home’s value. Taking cash-out can also be useful if you need extra money for expenses such as education or medical costs and do not have access to other funds.
Most lenders require that your loan-to-value ratio (LVR) stays at or below 80% post-refinance if lenders mortgage insurance is to be avoided (for primary residence; maximum LVR is typically 90% inclusive of LMI when refinancing).
7. Consolidate debt or removing guarantors:
Lastly, you can refinance to consolidate other debts into a single, more affordable payment. This can be especially helpful if you have high-interest loans and debts like credit card debt, personal loans, or a second mortgage. A debt consolidation refinance is technically considered a cash-out refinance, so the two work in a similar way. Essentially, a portion of your home equity is turned into cash out that you can use to pay off other loans and debts. Your old mortgage will be replaced by a new one that includes the amount you took out to pay those other debts.
Since refinancing for debt consolidation is a form of cash-out refinance, you can expect to get maximum post-refinance LVR of 80%. We suggest that you consider using the equity as a separate loan and over a short loan term than your mortgage. This will not add the interest cost of a short-term debt to the life of your mortgage.
Is refinancing right for you?
While there are many benefits to refinancing, it’s important to remember that you’ll still have to pay some costs when moving between lenders, these are mostly government charges and applies regardless of which lender you go with.
If you’re looking to get a better rate or term by refinancing, you should consider the break-even point: the length of time it will take for you to recoup the costs of refinancing (if any). If the savings from the rate difference is recouped with the first year, we suggest refinancing as your will be better off in the long term.
Facts to consider: Banks usually give their best mortgage deals to new customers, some also provide between $1,000 - $2, 000 in cashback reward to new borrowers, regardless of it being for a purchase or refinance. No only is this sufficient to pay any mortgage/ title transfer fees, in most instances, clients have surplus funds left to place into their offset accounts.