When to refinance your home loan
Everyone’s circumstances are different, however there are certain times when refinancing your home loan can be more beneficial than others. Historically, the general advice in finance circles was to only contemplate refinancing if there was 1-2% p.a. difference between the loan you are repaying and the loan you are considering, such was the burden of break costs and other fees. It was also an era when the mindset around home loans was usually "set-and-forget".
Today, the home lender market is extremely competitive. Plus, discharge fees on variable interest loans are now much smaller due to government regulation introduced in 2011 which abolished early exit fees (these may still apply for home loans secured before 2011, so speak with your bank if that is the case).
The upshot is that the benefits of refinancing are often more easily achieved than in previous years. As usual, it all comes down to doing the sums.
When interest rates change
As interest rates move up or down, your home loan may no longer be competitive, depending on your lender’s other customer commitments and policy strategy. When it is time to compare your home loan with what's available, comparison sites like Canstar, Rate City and Finder show a range of loans and their features and conditions which can give you a top-line look at what is available.
In a rising rate environment, it may be worth exploring fixed rate loans. Fixing your rate can provide mortgage repayment certainty for the term of the fixed rate period, usually 1-5 years. However, fixed rate loans generally restrict how many extra repayments you can make, and don't offer the same flexibility as most variable rate loans. Check out IMB's range of home loans to see which best suits your needs with regards to features, flexibility and certainty.
Of course, there will be costs of switching. A discharge fee usually applies to exit your current loan and application fees may apply to the new loan, so you will need to crunch the numbers to see how worthwhile the change may be. Find out more about the possible costs involved in refinancing in how to refinance your home loan.
Your LVR is less than 80%
Many lenders may offer better rates for owner-occupiers who have an 80% LVR (Loan-to-Value-Ratio) or better, meaning that the loan value is less than 80% of the property value (as valued by the bank), and many specialist online refinance lenders won’t lend to anyone with an LVR higher than 80%. Some lenders will supply loans for buyers/refinancers with up to 95% LVR, or only 5% deposits (for new home buyers) or equity (for refinancers). These loans will often have higher interest rates to offset the risk and will incur Lender's Mortgage Insurance (LMI). Refinancing with such a high LVR may not be the most cost-effective option over the long term.
Here is how the LVR on your property can change over time. If you bought a home worth $500,000 and borrowed $475,000 with a 5% deposit of $25,000, then the LVR is 95%. If over 5 years, you have paid $50,000 of the principal and your property has stayed the same value, then your LVR is 85%: 425,000/500,000.
If, however, the property has increased in value over 5 years to, say, $600,000, then your LVR would be 71% because of the increase in equity. This could open you up to a better interest rate, making it potentially worthwhile shopping for a refinance loan.
Speak with an IMB refinance specialist – they can help you establish your LVR position easily.
At the end of a fixed interest loan term
Coming out of a fixed interest loan term is a perfect time to look at refinancing, as most fixed interest loans will revert to a standard variable rate at the end of the term, which can be much higher than other competitive loan rates. Market fluctuations over the term of your fixed loan could mean there are better value loans – fixed or variable – now available. It’s worth looking around.
An advantage of IMB’s highly competitive fixed rate loans is that they will revert to a discounted variable rate, rather than the standard variable rate. Our team will contact a member prior to their fixed rate loan reaching the end of its term, to help them work through the best options when the loan closes: another fixed loan, or a switch to a variable rate, a mixture of the two in a split loan, a different product with different features, and so on. You can reach out to our team to find out more about our fixed rate loans or call 133 462 to speak with us about what options are available to you if your fixed loan term is soon coming to a close.
When your circumstances change
For the better
Have you earned a promotion recently or has your partner secured a new job? Have you inherited a windfall, or bought an investment property and are receiving rent? These are some situations where you can make your home loan work harder for you, by changing your home loan for one that has more flexibility, such as the option to make extra repayments, or added features like an offset account and the ability to redraw.
Similarly, you can use your improved circumstances to explore unlocking equity to renovate your home, buy an investment property or holiday home, purchase a new car, buy shares and so on.
For the worse
Conversely, if you are experiencing a change in circumstances in which money has become tight, then refinancing can be a way to lower your repayments immediately - although you may pay more in the long run.
The same applies if you have other loans or credit cards that are becoming difficult to pay down along with your home loan. Refinancing your home loan to consolidate your debt into one repayment is one possible way to ease financial strain in the short term. Remember, as detailed in why refinance your home loan, you will likely end up paying more over the 30-year term of the loan.
When not to refinance
Breaking a Fixed Rate Loan Term
The most obvious reason not to refinance is that you have not completed the term for a fixed rate home loan. There is always a risk when agreeing to a fixed rate term that rates will change over the fixed-rate period and may become lower than what you are paying. If you choose to refinance during the fixed-rate period you may incur costs known as “break costs”, “early exit fees”, or “early repayment penalty”.
Why? Banks calculate their break costs in different ways, often based on the Bank Bill Swap Rate, which is the interest charged to your bank on wholesale fixed-rate borrowings. To recover their losses due to the broken deal, the bank will apply its own formula for cost recovery – which includes several other factors – and charge the customer accordingly.
Generally speaking, the more that interest rates have reduced since you agreed to the fixed rate, the higher the break costs will be. Break costs can be substantial, so consider requesting a quote before you consider breaking your fixed rate term. It may make sense to finish your fixed rate term and then shop around.
When your LVR is still above 80%
As stated above, once your LVR drops below 80%, refinancing to a loan with a better rate may be a good option. If your LVR is still above 80% when you choose to refinance your home loan, you may need to pay Lenders Mortgage Insurance (or LMI) again (assuming you paid it with a less than 20% deposit when you first bought your home).
LMI insures the lending institution for any losses it incurs in the event the property needs to be sold following default by the borrower. The cost of LMI can be substantial, and is calculated on your loan amount and how much higher than 80% the LVR is on your property. A higher LVR may make refinancing the loan amount not worth the cost of the LMI.
You’ve explored why and when to refinance, now find out how to refinance your home loan.
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