Is your loan working for you?

While it looks like low interest rates are here to stay for a while, the broader economic impact of COVID-19 is being felt around the country. Under the current circumstances you may be thinking about reviewing your loan arrangements.

Perhaps your circumstances have changed since first taking on the loan and you are struggling to make repayments, or you’re wondering whether you would be better off with a different type of loan. Maybe you’re not too sure of your exact home loan rate – according to UBank’s 2018 Know Your Numbers Index, 82% of Australians fall into this category.i

Getting a better grasp on your finances is important for your financial security and will help inform your decisions as to whether you stay with your current home loan or change. Here are some home loan options to consider:

Variable rate loans

As the name suggests, a variable rate loan is one in which the repayments are dependent on the fluctuations of interest rates. If interest rates fall, so too do your repayments, while if they go up you will have to pay more. This loan structure does provide you with the flexibility of being able to repay more than your minimum payment, to assist you in paying off your loan faster.

The changing nature of these loans means that your repayments can increase and decrease from month to month or per term. You can make the most of the current low interest rate environment, but you’re also subject to rate movements, should interest rates change. You’ll need to be able to have some flexibility when it comes to how much your repayments will be. And should interest rates rise quickly, you could find yourself paying more than if you had a fixed rate loan.

Variable rate loans can include longer repayment terms, which can be helpful given the risk of not knowing the exact amount you’ll have to pay back.

Fixed rate loans

In contrast to a variable rate loan, a fixed rate loan stays the same, making it easier to plan your repayments and budget accordingly. There won’t be many surprises, as your repayments will be the same amount each month.

By opting for a more stable loan, you’ll of course then be sacrificing the potential opportunity of receiving better rates, should rates drop. And just as there is the risk that a variable rate loan could end up costing you more than a fixed rate loan, so too is the possibility that you’ll be spending more with a fixed rate loan if interest rates drop.

Fixed loans generally limit the amount of extra repayments you can make, which can be consideration, if you are wanting to pay off your loan faster. If you make additional repayments over the limit you may incur early repayment penalty fees.

Split loans

A split loan allows you to hedge your bets in a sense and divide your home loan into different accounts which attract different interest rates. For example, you might decide to have a fixed rate component as well as a variable rate to get the best of both loan options.

As there is a fixed component of your loan, this means, should rates drop you won’t be able to take advantage of these and for the variable aspect should rates increase you will also experience the increase. However in either circumstance, the movements are softened with a fixed and variable component to your loan.

While you’re thinking about your home loan, it’s also worth asking whether your repayment arrangements are working for you?

Principal and interest repayments

With this arrangement you are paying down your principal balance, the total amount of your loan, as well as the accrued interest. As each repayment reduces the principal amount, you could end up having to pay less interest over the life of the loan.

Interest only repayments

Interest only repayments are just that – they only cover the loan’s interest portion and not the principal balance. This can be beneficial in the short-term as it means your repayments will be lower. They can also be used as a tax advantage for the owners of investment properties.

However, you will pay more interest over the life of the loan. When the period of interest only repayments ends, you begin payment off the principal amount of your loan and interest on the principal amount.

There are advantages and disadvantages associated with different types of loans and repayment approaches that need to be considered. If you have any questions about your loan structure and whether it still works for you, please give us a call 08 8211 7180 or email us at info@centramoney.com.au

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