With three cuts to the RBA official cash rate so far this year, home loan interest rates have plummeted leaving many Aussies enjoying a lower rate on their current loan or jumping ship in search of a better deal.
But what does a lower interest rate on your home loan mean for your repayments?
While it may seem that a smaller monthly repayment on your home loan is a good thing when you are getting a lower interest rate, it also means you could be preventing yourself from paying down that loan quicker than is possible.
“Some borrowers opt to save themselves time and money when refinancing their loan simply by continuing their good habits and making the same repayments as they were making previously,” Mozo Banking Expert, Peter Marshall said.
“However, this isn’t a position all homeowners can take. Some have other expenses and financial priorities that could be lightened if their monthly home loan repayments were smaller.”
Look at it this way…
If you are paying back a variable home loan, making principal and interest repayments, every repayment will be split: some of it principal, some of it interest.
But as time goes on, the amount of interest you pay lessens because your balance gets lower and lower, meaning you are paying off more of the principal with every repayment you make and ultimately speeding up the repayment of your loan.
So, that’s why keeping the same repayment amount, even with a new lower interest rate, is crucial when you switch to a new loan, or your current lender drops your interest rate. And let’s face it, when your current repayment amount is already nestled within your budget, why not keep it the same and get to the finish line sooner?
Essentially the bigger chunks you can chip away from your loan month to month, the earlier you can wave it goodbye. Plus you’ll also save yourself in interest repayments because your balance will get smaller faster.
Here’s an example...
She is five years into a $500,000, 25 year home loan with a variable interest rate of 3.50%. She pays a minimum repayment of $2,503 per month, so has $431,602 left on her loan.
Sandra is now looking to switch to a provider that has dropped its variable rate to 2.90% after the third RBA rate cut. If she switched to this lender, her minimum repayments on this loan would drop to $2,372 per month - $131 less than her current loan.
But, if she keeps paying those original repayments she was making on her old loan, on this new loan ($2,503) she would pay it off 16 months sooner and save total of $10,300 in interest. Imagine what Sandra could do with an additional 16 months mortgage-free and over $10,000 in her pocket!
SOMETHING TO REMEMBER: If you are thinking of switching to a new lender for a more competitive interest rate, keep in mind that you could face a few fees for doing so.
Do a little bit of homework, and compare your potential interest savings against any potential costs so that you aren’t actually losing out. And if you need a little extra hand with crunching the numbers jump onto our home loan repayments calculator to see how much you could save on interest.
A few quick tips for managing your home loan repayments
- Make sure you can make extra repayments: In order to keep your repayments the same on your new loan, you may have to make extra repayments. The addition of a redraw facility could also come in handy if you are strapped for cash later down the track, but remember the more extra repayments you redraw the longer it will take to pay back your loan.
- Choose a loan with an offset account: Offset accounts are a great place to set money aside, like a regular bank account, while reducing the amount of interest you pay on your home loan. The less interest you pay, the more your monthly repayment goes towards your principal, and the sooner you pay your loan down.
- Take out mortgage protection: If life deals you a bad hand like sickness, injury or job redundancy and you are unable to pay off your home loan, mortgage protection insurance could really help you stay on top of your repayment schedule. The insurance covers your repayments for a certain amount of time so that you’re not set back too far once you are back on your feet.
Home Loans 2019 - last updated January 16, 2021
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