How to start building your home loan buffer
In a low-rate environment, it might be best to start building a mortgage buffer
07 May, 2021
Our extra and lump sum payment calculator helps you see how much you could save by making extra repayments, or by making a one-off lump sum payment.
The average home loan can span anywhere from 25 to 30 years - this is a big commitment! It’s also a long time to be making repayments and incurring interest, which is why reducing the life of your home loan is a helpful way to save money.
An easy way to make your money work for you is to put it towards your mortgage in additional and lump-sum payments.
The sooner you can contribute additional money along with your standard monthly repayments, the better. Making extra and lump sum payments can significantly diminish the total amount you pay back on your mortgage, which could save you tens of thousands of dollars.
Think of it this way: extra repayments directly pay down the principal amount owing on your home loan (the amount of money you borrowed). Since the amount of interest is based on the principal, the lower this amount is, the lower the interest charges.
Despite these benefits, it’s important to note the drawbacks of making extra payments. Most notably, lookout for a ‘break fee’, which is generally only charged if you pay down your fixed-rate (rather than a variable rate) home loan earlier than expected.
With this in mind, it could be worth checking the terms and conditions attached to your mortgage before deciding whether making extra and lump sum payments will work in your favour. Alternatively, you could discuss with a financial adviser, accountant, or mortgage broker to decide which repayment strategy will be best suited to you.
In the meantime, for those wanting to find out how much additional payments can impact their home loan and determine its final amount - as well as the principal and interest rate fees that are included - Your Mortgage’s Extra and Lump Sum Calculator can be insightful on this front.
All you need to do is have some information handy and the calculator will do the rest.
Compare interest rates from some of the most popular lenders in Australia:
|4.5 STAR CUSTOMER RATINGSINCLUDES NOV RBA RATE INCREASE|| |
Variable Home Loan (LVR < 90%)
Variable Home Loan (LVR < 90%)
Neat Variable Home Loan (Principal and Interest) (LVR < 60%)
Up Home Variable (Principal & Interest) (LVR ≤ 90)
Up Home Variable (Principal & Interest) (LVR ≤ 90)
Your Mortgage’s Extra and Lump Sum Calculator will ask you to provide a few important pieces of information for it to perform its number-crunch.
This information will include the principal amount from the home loan, the annual interest rate, additional repayment amount each month when additional repayments will start, and any lump sum payment to be made throughout the life of the loan.
To help you understand how extra and lump sum payments can impact the total amount you will need to repay on your home loan, here is an example provided by the calculator.
Let’s say you have an $800,000 home loan with a 4.5% interest rate p.a. over a 30-year loan term.
Additional repayments will be made on top of your standard monthly repayment of $100 each month. An extra $10,000 will be contributed in the sixth month of your loan term.
From this information, the calculator shows that your 30-year loan term will reduce by two years and two months, and you’d save a total of $62.438 in interest - a huge amount considering the small outlay.
Whether you can contribute one larger lump sum or extra repayments over time will depend on you.
However, it’s not advisable to put money aside in the hopes of one day making a large lump sum payment.
This is because it can take time to save money. Contributing a lump sum towards to end of your loan term would mean you already paid a fair amount of interest towards the loan.
As soon as you have any funds that you plan to filter into the loan, you should take action - as the earlier in the loan term you are able to do this, the more beneficial it will be to your savings.
That being said, making a lump sum will instantly shave off a significant portion of the principal amount, which goes on to reduce the loan term and total amount of interest owed. But if this isn’t workable into your budget, making extra repayments each month or frequently - no matter how big or small - can reap a cost-saving benefit.
While most mortgages are set to monthly repayment frequencies, you could adjust the repayment cycle to weekly or fortnightly. Considering that interest is charged daily, making more frequent repayments can reduce the interest paid overall.
Instead of making extra or lump sum payments, you could consider having a mortgage with an offset account instead.
An offset account is a transaction account attached to your mortgage where you can deposit money. The amount of money sitting in your offset account is ‘offset’ against your mortgage, meaning you don’t need to pay interest on it.
For example, if you had a loan balance of $400,000 and an offset account with $50,000 in it, you would only need to pay interest on $350,000. This can help you pay down your mortgage faster, without needing to constantly make extra contributions. Plus, the money can be accessed if you need it, and more money can be deposited into the account whenever you want to.
It is possible to cut your loan term straight down the middle, but it depends on how much and how frequently you’re able to contribute towards extra payments.
Based on Your Mortgage’s Extra and Lump Sum Calculator, an $800,000 mortgage with an interest rate of 4.5% p.a. over 30-years would require you to make additional payments of around $2,100 each month to cut the loan term down to 15 years.
However, if you could pull this off, you would save $360,216!
It sure does. By switching to fortnightly repayments instead of monthly repayments, you end up making an additional monthly repayment each year. This is because there are 26 fortnights in a year, which breaks down to the equivalent of 13 monthly repayments.
If your lender has extra repayment penalties, you might want to consider whether making additional repayments will end up being cost effective. If you’re considering making $300 extra monthly repayments, but the penalty is $350, you might decide it isn’t worth it for you. You could consider refinancing and switching to a home loan without extra repayment penalties, but this will come down to your own individual circumstances.
Again, this will depend on how often you make additional repayments, and how large the repayment amounts are. Using the same example from above ($400,000 mortgage with 3% interest rate over 30-years), by making the $300 extra repayments and $20,000 lump sum after two years, you would save $67,402.95.
Typically, you won’t be able to make extra repayments to a home loan with a fixed interest rate. However, usually there is a fixed-rate period of a home loan, after which the loan reverts to a variable interest rate. At this point, additional repayments will often be accepted. But in most cases, making extra repayments on a fixed loan will lead to you breaking your agreement - and this can be expensive.
This will depend on how large your extra repayments are and how frequently you are making them. Let’s look at another quick example to demonstrate how quickly your mortgage can be paid off with additional repayments. Let’s say you have a $400,000 home loan with a 3% interest rate over a 30-year loan term. Without making extra or lump sum repayments, you’d need to make $1,686.42 monthly repayments. By adding $300 extra monthly repayments from month one, and contributing a $20,000 lump sum amount after two years, you would slice eight years and two months off the life of your loan.
First, you’ll need to double check with your lender to make sure they allow you to make additional repayments. If the answer is yes, the process is quite simple. All you need to do is increase your monthly mortgage repayment amount. Even if it’s by $10 extra per month, this can add up in the end.
In short, yes you can. However, it’s a little more complicated than just asking for the money back. If your home loan has a redraw facility, you can use this to take from any extra repayments you had made. Alternatively, you could look into refinancing and tapping into the equity built-up through your repayments. However, in both cases, the money needs to be paid back eventually, and you’ll likely end up paying more in interest.