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Overpayment and redraw facilities In these turbulent times, overpayment and redraw facilities give flexibility. Daniela Aroche discovers their benefits and how to make them work for you Whether discussing working hours, holidays or many other aspects of modern life, you'd be hard pressed to find someone who wouldn't prefer to have flexibility. This is especially true when it comes to how you structure a mortgage. Although the word 'mortgage' comes from the Old French for 'death pledge', these days there are ways to make your mortgage work in your favour. A mortgage doesn't need to have a limiting repayment plan. Overpayment and redraw facilities are just two options which give flexibility. Used correctly, they can enable you to have a mortgage that's easier to manage. Additional repayments Most mortgage products will allow borrowers to make extra repayments. By paying more off your mortgage than the required periodic minimum, you can save money in the long term by decreasing the amount of interest you pay over the duration of the mortgage. And shorten the time needed to finish paying it off. You can do this overpayment in two ways. One way is to increase the amount you pay each time, whether this is weekly, fortnightly or monthly. Even a small sum, such as $5 or $10 a payment, can make a significant difference to what you will save on interest over an extended period of time. This is explained by Dean Gillespie, head of mortgages at BankWest. "Overpayment facilities allow borrowers to pay more money into their home loan account than they're required to for their minimum monthly repayments, making the loan balance lower than it's contractually required to be." The other way is to make a lump sum payment off your mortgage in addition to your regular payments. Whether the lump sum is your tax rebate, a bonus or a generous gift, it's worth using it as an overpayment on your mortgage. This holds true even if it is not a large amount. The long - term benefits of the short - term strategy of putting financial windfalls towards repaying your mortgage can be very rewarding. Paying any extra into your loan is always an advantage, no matter what method you use. An overpayment facility offers a convenient system that can help you save on your overall mortgage. "This type of facility can definitely allow borrowers to save on their mortgage. By paying more than the minimum required, customers reduce their loan balance, and so reduce the amount of interest they must pay over the life of the loan," says Mark Jones, banking portfolio manager at AMP. If you get a $50 a month pay rise and use it as a regular additional payment off your mortgage, you'll save $68,183 on your home loan, and reduce the loan term by two years and 10 months. It's possible to model scenarios such as these using the Advanced Repayment Calculator on the Your Mortgage website at www.yourmortgage.com.au Redraw facilities Paying any extra money that you have into your home loan may be an easier decision when you know you have the ability to withdraw this additional money at a later date. A redraw facility allows you to withdraw the additional money you've put into your mortgage repayments, whether this has been an additional amount with each repayment or one - off repayments. It's important to note that redrawing your additional repayments will reduce the benefit of making additional repayments. However, knowing that you're able to redraw additional repayments if necessary can give you the confidence to increase the amount of money you pay. "A redraw facility is an additional feature which allows borrowers to take the money back out again to use whenever the need arises," says Gillespie. "The ability to pay extra money into a mortgage is a fantastic way for borrowers to save interest and potentially reduce their loan term, and the redraw allows convenient access to funds if they're needed later." Understanding redraw facilities As the terms and conditions of redraw facilities differ significantly among lenders, it's important to understand what redraw involves before you take out the loan. When considering a product with a redraw facility, make sure you ask the following questions:
"Generally, overpayment/redraw facilities are available on most variable rate loans, although if customers are going to deposit large amounts of money into it, they should make sure they don't choose a lender who charges deferred establishment fees," Gillespie warns. "Also, fixed rate home loans generally have a maximum amount that you can deposit into the loan per year, such as $10,000; otherwise a fee is charged. "It generally doesn't cost anything to have redraw added onto a loan, but customers might pay for each time they use it. Some banks charge a fee for transactions over the counter while other banks offer online free redraw." The fee per redraw The fee per redraw is the amount a borrower must pay each time they withdraw funds from their loan account using the redraw facility. This fee varies significantly between lenders and loans. Some lenders charge up to $50 per redraw, while others do not charge. The number of free redraws per year Some redraw facilities grant the borrower a number of free redraws per year. Once the quota of free redraws is exceeded, the borrower must pay a fee per redraw. For example, if a redraw facility grants four free redraws a year and has a $25 redraw fee, the borrower pays $25 fee for each additional redraw they make in any one year. Maximum number of redraws per year Some redraw facilities limit the number of redraws the borrower can make within a set period, usually a year. Once this number is exceeded, the borrower can't access additional repayments they have made. The minimum redraw amount Redraw facilities often have a minimum amount that can be withdrawn. With some loans there's no minimum; with others, it's as high as $5,000. This affects the flexibility of a redraw account, and is the main aspect that sets it apart from an all - in - one account. The maximum redraw amount The maximum redraw amount is the largest amount you can withdraw at any one time. In most cases, this is equal to the total of the additional repayments you've made. For example, if you're $3,000 ahead of your minimum loan repayment, you can redraw $3,000. Some redraw facilities set the maximum as the total of additional repayments less one month's repayment while others set a fixed amount, say $5,000, that you can withdraw, regardless of how much extra you may have paid. What to look for When it comes to finding the best type of overpayment/redraw facility, there are a few basic points to look out for, according to Wayne Alpine of Money First Loans. "You'll need easy access, and monthly mortgage charges should be small or nil. As for the redraw fees – a high redraw fee might be more beneficial for a borrower who knows that their self control is lacking, whereas the reverse is true of someone with good self control," he says. Knowing that an overpayment facility with redraw may cost you, should you need to take money out, may leave you wondering whether the redraw option is worth having. As Gillespie explains, it again comes down to your own attitude and circumstances. While the option to overpay and redraw might suit some, it could become a problem for others. "It really depends on how often the customer wants to use the redraw facility. Some borrowers only want to deposit and withdraw once every blue moon, so the fee makes little difference. But other borrowers will want their salary to go in each fortnight, and then pull out money when they need it, which could be every few days," Gillespie says. "If they're going to use the facility frequently, they should pick a bank with online free redraw, as it's free every time. Basically, different loans have different facilities, so when choosing their loan, borrowers should talk to their bank or broker and get the loan that suits them." Some loans charge a flat fee for having a redraw facility. This may or may not be charged upfront. If not, it's described as a redraw activation fee and charged only if and when the borrower wishes to use the redraw facility. Once the redraw facility is activated, you can use it as often as you like. Avoiding the traps To choose the most suitable redraw facility, you need to have a good idea of how you'll use it. There's no point paying for something you won't need. If you're unlikely to be able to make additional repayments on your home loan in the foreseeable future, you can save by not choosing a home loan that has a redraw facility but also has a higher interest rate. The fact that you have the option to overpay, as well as unlimited access to these funds, is clearly an advantage. However, this freedom can cut both ways. Industry experts warn that you need a certain level of self control to keep from dipping into your 'extra funds' too often. "A problem only arises if you take money out and do something with it that you didn't really need to, such as purchasing a 'want', not a 'need'," says Lisa Montgomery, head of marketing and consumer advocacy at Resi Mortgages. "However, most redraw facilities actually have a minimum, anyway, that you can redraw, such as $1,000 or $2,000. So people generally don't treat it as a transactional account, and instead tend to look at it as a sort of savings account that's doing them good and that they want to see grow." Jones agrees with this, but says that although overpayments can offer several options outside the rigid boundaries of a regular repayment scheme, borrowers need to be aware that this isn't a 'get out of jail free' card from repayments. Commenting on the freedom from a rigid repayment structure, Jones says: "It really depends on each individual customer's circumstances … with redraw facilities, customers are still expected to make the minimum required repayments on loans, but these facilities provide far greater flexibility for customers in how they use their funds." Is this the strategy for you? Although overpayment and redraw facilities offer many advantages, the benefits work best if you're a particular type of borrower. Consequently, it's important to determine whether this facility will suit your circumstances and personal approach. "Customers who are more disciplined in their finances can gain more benefit from this type of facility," Jones advises." Any customer can use facilities of this type, but the appropriateness of such a facility very much depends on the customer's needs, objectives and circumstances at the time. So all customers should take independent advice about what type of loan product and facilities are best suited to their particular circumstances." Gillespie agrees, and adds that borrowers considering redraw and overpayment facilities need to be aware of their own weaknesses in terms of financial discipline." Some borrowers may find that having access to a redraw facility makes it too convenient for them to access their funds," he says. "Many people like to get ahead in their loan by putting extra money in, but then prefer it to be difficult to take out again! It's a matter of personal preference. Customers should have a chat to their bank if they're unsure." A mortgage and other savings A home loan which allows you to make additional payments and has a redraw facility can be an excellent savings tool. There are three main benefits of putting your money into your home loan rather than a savings account. The first benefit is that by putting excess funds into your home loan you make them effectively earn the interest rate on your home. Savings accounts generally pay much lower interest rates. The second benefit is that although you're effectively earning a higher interest rate than if your money was in a savings account, you don't have to pay tax. Interest earned in a savings account is considered income and is usually taxable. The third benefit is that you can use the overpayment facility as a savings strategy for purchasing something that isn't related to your home loan. If, for instance, you're planning to save up for 18 months in order to buy a new car, using a home loan with a redraw facility can be an effective way of doing this. By putting in $100 a week extra into your mortgage towards your purchase, after 18 months you'll have made close to $8,000 in extra repayments, enough to buy a reasonable second - hand car. As a bonus, you'll have reduced the amount of interest you pay on your home loan and the time you take to repay it. |