Article by Mozo
Have you built up some equity in your home through extra repayments or your property has appreciated in value? Then you could be eligible for a line of credit loan that allows you to draw on a portion of that amount to fund things like an upcoming renovation or new family car.
But you’ve probably got a few questions around how a line of credit works and whether it’s the right option for you. So in this guide, we’ll run you through everything you need to know about line of credit loans in Australia. Let’s kick off by answering the biggest question...
Once you’ve got equity in your property you can refinance with your current provider or a new lender to a line of credit loan, which is a revolving loan facility that you can access when you please, as a lump sum or bit by bit. So just like an overdraft account that allows you to draw on an agreed amount, a line of credit works in the same way but the amount you are able to draw on is usually much higher and will depend on the equity you hold in your home. This is why line of credits are also dubbed home equity loans.
Keep in mind, banks generally have restrictions on the amount you can borrow through a line of credit of up to 80% of the property value. You can figure out your equity by deducting your home loan principal (the amount still owing) against your home’s total value. If you’re unsure what your property’s value is you can ask your provider to conduct a valuation.
Scenario: Home owners Joseph and Maureen currently have a house worth $700,000, however still owe $300,000 towards their mortgage. This makes their equity $400,000 and depending on their provider’s line of credit restrictions they can draw on a portion to fund their upcoming house refresh. Joseph and Maureen decide they only need $100,000 to complete their renovation, so ask their bank to put this as their line of credit limit. Because they are borrowing far less than 80% of the property value, the bank is likely to approve their request.
After the line of credit loan is set up you should receive a debit card that you can use to withdraw the money or alternatively you can hop online to the bank’s internet banking page and transfer the money to your everyday bank account.
The reason many homeowners opt for a line of credit over a personal loan is because home loan interest rates are much lower at around the 5-6% mark compared to personal loans that are often over 10%.
Another great thing about a line of credit is unlike a personal loan it gives you the flexibility to draw on funds when you want, so you could decide to use the amount in one lump sum or withdraw varying amounts when you need to.
Scenario: Joseph and Maureen need to pay everyone from the builder to the painter at different times during the renovation. Thankfully if the full cost turns out to be only $80,000 their revolving line of credit means they have access to these funds at each stage and are only charged interest on the amount they use, not the full $100,000 line of credit limit.
Banks and financial institutions will generally charge you a higher rate with their line of credit loan, compared to the standard variable rate available with their basic no frills package.
Some lenders even use a tier based rate system, which means your rate will be based on the amount you are looking to set up as a line of credit. For instance, just take a look at Westpac’s 5.63% variable rate Equity Access Loan, which will give you different discounts depending on your line of credit amount.
Line of credit amount
Variable interest rate
$150,000 - $249,999
0.7% p.a. off
$250,000 - $749,999
0.9% p.a. off
$750,000 and above
1% p.a. off
*Rates taken on 21 July 2015
Whether you’re switching to a provider that offers a loan with a line of credit facility or upgrading your mortgage package with your current lender, you may be charged an upfront fee when you switch to the new line of credit loan. You will also generally incur a higher annual fee than with a standard home loan. So it’s wise to only take out a line of credit loan, if you know you are definitely going to use the feature.
Line of credits are interest only, which means you will only be paying down the interest on the amount borrowed and will need to start making extra repayments on your home loan to clear yourself of the amount you’ve drawn on through your line of credit. Another reason to start making extra repayments is because drawing on a line of credit will increase the term of your loan.
Homeowners that have a purpose for the money like purchasing a car or renovating their home and know they will diligently pay it back by making extra repayments on their home loan.Home loan features guides