There’s a lot of speculation about when we’ll be making higher mortgage repayments as a result of interest rates rising.
Whether it’s now or later, it’s always a good idea to check how you’ll manage if that happens and what you could do to make your life easier.
Let’s talk about us
Using some Australian averages, let’s say we’ve borrowed $600,000 to buy the home we’re living in (called owner-occupied).
Because we were nervous about interest rate movements we got a home loan package with an annual interest rate of 2.3% that enables us to split our loan between fixed and variable, which includes a ‘genuine’ offset account and redraw facility.
We didn’t bundle any other ‘nice to haves’ like credit cards as these would have increased the cost of the loan.
Otivo’s mortgage calculator tells us we’re paying $2,309 each month ($0 fees). Each repayment goes towards principal (what we borrowed) and interest (what the lender charges us to borrow the money). If it takes 30 years to pay off, we’ll pay the lender $231,141 in interest.
Our monthly household income is average at $8,344 and, after deducting monthly living expenses of $4,118 and our $2,309 mortgage, we’re left with $1,917.
What’s the best bang for our bucks?
If we use that spare money to increase our repayments to $4,226 ($2,309 + $1,917) we’d mow down our mortgage in 13 years and 10 months, saving $130,176 in interest. Or in other words, increasing our repayments makes us better off by $130,176.
Our wealth boost is slightly deflated if interest rates climb by 2% (so up 4.3%pa), and all things like our loan balance remain the same, and our monthly repayments follow by increasing to $2,970.
But we remain positive as we’re able to afford it and know that our home loan could be paid off in 16 years and 7 months. The offset account continues to do the hard lifting by reducing the loan balance we’re charged interest on (we keep it well fed).
However, if we could only afford to pay $2,309 we’d be in financial pain if our lender increased the mortgage interest rate beyond what we can repay (which they can do at any time).
What could we do?
Keep calm and google some popular strategies we could use like:
Negotiate. Ask for a lower interest rate. A lower interest rate means lower monthly repayments. Plus, even a small rate reduction could result in big interest savings over time.
Re-finance. If you find a better deal elsewhere, it’s easier to switch to a different lender or home loan product if you’re on a variable rate, without attracting break fees. Don’t forget about the offset account - it’s a powerful debt reduction tool .
Fix it. If we lock in a fixed rate today we could save money on our repayments in the future as interest rates rise (like we saw above). It would give us certainty on what we’re repaying, making it easier to budget. But, we can’t make extra payments and this slows us down paying it off. This is one of the reasons why fixing half of a home loan is popular.
Split up. We could benefit from fixing part of our loan and have the remainder on a variable rate. That way if we’re able to keep paying above the minimum, we can still pay our home loan off sooner without incurring break fees.
Interest only. Paying interest only keeps mortgage payments low (which is less than the principle and interest combined). Downsides include making a loan more expensive in the long run and not building up equity (a valuable resource when it comes to property investment).
Financial hardship . All lenders have hardship teams ready to help us if we fall in tough times. Called hardship variation, we may be able to change the terms of the loan, or temporarily pause or reduce repayments.
Next steps
Log into Otivo to check how these strategies and other tips could make you financially better off now and in the future.
After that, chat with a mortgage broker about the pros and cons, fees and costs of suitable products and strategies to avoid any costly financial mis-steps.
© Otivo (Map My Plan Pty Ltd ABN 47 602 457 732, AFSL and Australian Credit Licence no. 485665, trading as Otivo). The information and resources provided in this article are current as at June 23 and are for general educational purposes only. The content has been prepared without taking into account your objectives, financial situation or needs. Because of this, you should consider the appropriateness of the information against your own situation and needs before taking any action. It should not be relied upon for the purposes of entering into any legal or financial commitments. Sources : ABS Lending Statistics , January 2022. Otivo’s home loan calculator has been used to obtain the figures and amounts are net of tax; A ‘genuine offset account’ is one that is backed by the government’s $250,000 deposit guarantee . An offering of this type can only be provided by an ‘authorised deposit-taking institution’ which many lenders are not; ABS Average weekly family income . 4 Home loan experts, Living expenses calculator.