What can you do if your mortgage lender goes bust?

Banks going bust has been a major source of anxiety for many people at many points in time. It was a large piece of the Global Financial Crisis (GFC) puzzle and sparked stock market carnage in 2023, when Silicon Valley Bank’s collapse hit headlines. 

But while depositors and shareholders face one set of risks when a bank collapses, borrowers will have a different set of questions entirely.

Do you suddenly get a free pass on repayments? Could you be forced to cough up the full balance? And what happens to your redraw facility or offset account?

Firstly, there’s no need to panic. Here’s what you might expect if – however unlikely – your home loan provider goes bust.

What happens to your mortgage if your home loan lender goes bust?

Most Australians borrow from banks, credit unions, or non-bank lenders. No matter which option your home loan is through, the mortgage contract doesn’t just vanish if your lender collapses. You’ve signed a legal contract with your lender and you have to keep meeting your repayments in the aftermath of its collapse. 

What you might not expect, however, is that you’ll probably soon have a new mortgage lender.

If a lender collapses, its loan book – including your mortgage – will usually be sold to another bank or lender. That new lender will likely step into the shoes of your old one, and you’ll keep repaying under the same terms unless you’re told otherwise. The only real difference will probably be who you’re paying each month.

Fortunately, it’s rare for a bank or lender to collapse, particularly in Australia.

What happens to redraw facilities if a mortgage provider collapses?

A common misconception is that a redraw facility is like a savings account. It’s not, and the difference means home loan holders with hefty redraws might be more impacted than others if their lender were to go bust.

A redraw is like a door to the extra repayments you’ve made on your loan. Those extra repayments will have reduced your mortgage’s principal balance, lowering your interest costs and helping to repay your loan faster. Most Australian lenders allow borrowers to ‘redraw’ those funds if they’re needed later.

If your lender collapses and your mortgage is sold to another institution, however, it may only recognise your principal balance at the time of transfer. That could mean your access to your redraw is reduced – or even removed. Though, it’s probably more likely the new lender will honour borrowers' redraws.

What happens to offset accounts if a bank collapses?

It’s an entirely different story for offset accounts in the event a bank goes bust.

In many ways, offset accounts are considered the same as savings accounts or term deposits. They’re deposit accounts – and they’re largely protected by the government.

If your bank goes under, the Australian Government’s Financial Claims Scheme guarantees deposits of up to $250,000 per customer. 

That means if you had $100,000 sitting in an offset account, you’d get it all back even if your bank failed entirely. But if you held $500,000 in an offset account in your name only, the FCS would cover $250,000 – potentially leaving the remainder at risk (though, you’d have priority claim to liquidated assets). To reduce this risk, some borrowers spread large balances across multiple ADIs or consider joint accounts, which may double the protection.

Thinking of refinancing to a home loan with an offset account? Check out these low-rate deals:

Important Information and Comparison Rate Warning

But there’s a catch: the FCS only covers deposits held with Authorised Deposit-taking Institutions (ADIs), ergo banks, building societies, and credit unions.

Non-bank lenders aren’t ADIs. They’re still regulated by ASIC and the National Consumer Credit Protection Act, so your mortgage obligations remain protected. However, if a non-bank lender advertises an ‘offset’ product, it will usually work more like a redraw facility behind the scenes, as non-banks can’t legally hold deposits.

And remember: holding more than $250,000 across several accounts with the same bank won’t provide extra protection – the cap applies to your total deposits with that ADI.

How common is it for Australian banks to go bust?

Anxious minds might be eased to learn that banks and lenders rarely go bottoms-up Down Under. Even more rare (indeed, largely unheard of in modern times) is an outcome that sees depositors out of pocket.

That’s not to say that no bank or lender has gone bust. 

Fintech outfits Xinja and Volt have called it quits in recent years, handing back their banking licences in 2020 and 2022 respectively. Before CommBank swooped in to the rescue via its acquisition, there was a moment Bankwest appeared doomed during the GFC. 

And looking further back, the State Savings Bank of Victoria essentially collapsed in 1990 (it was also purchased by CommBank) and the State Bank of South Australia caused economic carnage when it collapsed in 1991 (its remnants now make up part of the Westpac Group).

How do banks make money and why do they collapse?

Banks and lenders generally make money by taking customers’ deposits and using a large portion of those funds to issue loans, charging borrowers more in interest than they pay depositors. For most, home loans make up the bulk of their income. They also earn money from credit cards, fees, and by providing other financial services.

When can things go wrong? There are two classic ways a bank can fail, and they can happen in unison:

• Loan defaults: If too many borrowers default on their repayments, the bank’s loan assets lose value. Even repossessing homes may not cover losses if property prices fall, which can undermine the bank’s balance sheet.

• Bank runs: If enough depositors panic and withdraw funds all at once, the bank can be forced to shut its doors. Even healthy banks don’t keep everyone’s cash on hand – much of it is loaned out. A sudden surge in withdrawals can tip an institution over.

In Australia, both scenarios are highly unlikely. Regulators require banks to hold strong capital reserves and liquidity buffers to withstand shocks. That’s why bank runs here are rare – the last significant one was in 1977.

How likely is it that my home loan lender could collapse? 

Australian banking regulations have come a long way since the 1990s and were tightened considerably in the wake of the GFC, despite Australia emerging relatively unscathed.

Today, the likelihood of any bank –  let alone a major one – failing is very low. And if your home loan lender did collapse, your mortgage would almost certainly be taken over by another provider.

Unfortunately, that also means the likelihood of your mortgage simply being wiped entirely is almost inconceivable, even if we wish it wasn’t. 

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