You may have breathed a sigh of relief when you signed into your first home loan – especially if you had spent weeks, or even months, sifting through the many lenders on the market to hone-in on a home loan product that suited your long-term goals, as well as your ability to service a loan over 30 years.
But 30 years is a long stretch of time, during which a number of new loan products can become available and interest rates can flutter – potentially diving lower than the rate you’re currently on.
This can be said for the current property climate, which has seen the RBA slash interest rates to a new history-breaking low of 0.25% as a result of the unfolding COVID-19 pandemic and the pressure it has placed on the market.
Considering that changes in the market and lending sphere can happen frequently, there comes a time when you will need to ask yourself: should you refinance your current home loan or stick to your existing one?
It can be a longer process to work out whether you might even qualify for a refinance, given last year’s shake-up to how banks evaluate loan applications, following the royal commission.
However, the market is now tracking a recovery, the lending reigns are softening, and borrowers are consequently re-building their confidence in this sphere; in part due to lenders looking at how they can make lending more accessible to customers within the boundaries of lending guidelines and regulations.
While changes to lending criteria have made it more difficult for some in recent times, conditions are improving, and it is still possible for most Aussie borrowers to access a new loan with a lower rate, better terms or more suitable features.
It’s not to forget the current circumstances that are impacting the market, however. For some, right now may not be a viable time to refinance, considering that lenders have had to introduce a number of restrictions to home loan applicants because of the strain COVID-19 has caused household incomes.
Your current lender may have also provided you with an assistance package that could allow you to defer your repayments, extend your loan term, and sign into a lower rate without having to refinance – so it might make more sense to stick with your current lender, negotiate a better rate with them directly, and look into refinancing further down the track.
When refinancing could make sense:
- Your lender’s rate is no longer competitive and lower interest deals are available
- The value of your property has increased, and you want to access your equity
- A major change has occurred in your financial or personal situation
- You need money to pay for something major like a home renovation, a child’s education, or another property investment
- You want to switch to a fixed rate at an opportune time
- You’ve started accumulating large credit card debts and want to consolidate
When refinancing might NOT make sense:
- You might not own the property for much longer
- Your property value has decreased
- When your current loan is fixed (as prepayment penalties can be high on existing home loans)
- Since your previous loan, your credit history has taken a hit due to outstanding debts, making it less likely you’ll get a good rate
- You no longer have a reliable source of income (ex: you’ve moved from full-time employment to freelancing)
You should also consider your motives. Is accessing the equity in your increased property value, paying a lower interest rate or lower fees, debt consolidation, or all of the above the reason behind your decision to refinance?
Just chasing a lower interest rate won’t be enough. You need to consider the entire lifespan of the loan, not just the headline interest rate.
Also, think about the costs of switching to another lender. Miscellaneous fees to consider include the entry, exit, application, valuation, stamp duty fees, and Lenders Mortgage Insurance (required if you don’t hold at least 20% equity), as well as other ongoing charges.
Is now the right time for you to refinance?
While it resulted in tighter lending conditions and a loan criteria that would require borrowers to jump through more hoops to obtain funding, the banking reforms of last year have contributed to an environment of lower interest-rates – and the initial effects of COVID-19 on the property market this year led to the RBA cutting the rate even lower.
This means the timing could be perfect for you to access a better interest rate. That said, it is ideal to consider the term of the loan – and whether it will be fixed interest rate or variable interest rate – as this can drastically impact your long-term financial obligations.
Another factor is the security of your income, which has been of focus recently with many households having had their incomes compromised because of the economic implications of COVID-19. Leading lenders have proven their support to customers that have fallen on hardship during this time, by introducing relief packages that allow borrowers to postpone their repayments for three to six months.
But even then, you need to consider how secure your job is or if you can manage the home loan on one wage instead of two. And borrowers should also be aware of the early warning signs that refinancing with a particular lender might not work out.
If something doesn’t feel right early on, it might be time to look for another lender. For example, if a lender is slow in approving your loan or doesn’t communicate well during the period when they’re trying to win your business, there’s a strong chance their service might not improve once they’ve gotten your business.
It’s also worth talking to your existing lender when considering refinancing. Some lenders might go to unexpected and extreme lengths to keep you, such as waiving fees and lowering interest rates, rather than letting you go to a competitor. That can be especially true if you’ve made all your payments on time and have been with that lender for a number of years.
If you approach another lender, it’s important to always present the best financial picture of yourself to them. Make sure you’ve paid off as much of your other debts as possible, and drop unnecessary credit cards.
Unfortunately, those who want to refinance but have been late in paying their bills and owe considerable amounts on a credit card might not be able to find a lender who is going to offer very good rates.
When refinancing makes sense
There can be many reasons to refinance: a job change influencing your financial situation, or a current lender’s loan rate that isn’t keeping pace with the competition. Perhaps you want to renovate your current property or invest in more real estate.
Even if there isn’t any specific reason you have in mind, it’s always worth weighing up the viability of refinancing from time to time. Over the years, loan products have improved and there are much better deals out there.
Every two to three years is a good time for you to reassess your home loan and compare it to other home loans on the market. By doing this, you can determine if a change will provide you with the flexibility you need, or if the fees and charges on your current loan are high compared to other products. This timeframe allows you to manage your interest rate risk and avoid costly break fees.
If you have locked in all or some of your loan over a three-year period, it would be a good idea to start looking at least a few months prior to its expiry. Finishing off the three-year period will also ensure you minimise the “exit fee” charged by most banks.
Wanting a lower interest rate and lower repayments are some of the more common reasons to refinance. It can be frustrating if your lender increases the interest rate on your loan by more than was set by the Reserve Bank. Other lenders may raise or lower their interest rates out of cycle with the Reserve Bank.
Even a slight increase or decrease in your interest rate can make a major difference in your repayments. Others who are looking to refinance might just want to fix their repayments, especially if rates have already bottomed out or will soon.
Another reason to refinance your home loan might be to consolidate your debts and only have one monthly repayment. If you have multiple debts from various sources (such as home loans, personal loans, credit card debt, or other high interest loans) and you’re having trouble paying these off, then it could make sense to roll these debts together with your home loan. The main advantage here is that your home loan rate is typically a lower rate.
Some credit cards have rates as high as 20% or more, which is around five times what you’d pay with a home loan rate. The key is to make sure you are making consistent extra repayments once you’ve consolidated, so that you’re not paying off your consolidated car and personal loans over a 30-year period.
The same is true if you manage to get lower interest rates on your variable home loan; the savings this provides should be used to pay off the loan faster, so don’t be tempted to use this as disposable cash.
Some borrowers also want to refinance to use the equity in their home to pay for home improvements. Keep in mind, while allowing you to expand your property portfolio or value, it will also greatly increase the loan term.
Also make sure when you refinance that you will be in a home you’d like to stay in for a fairly long period of time. Moving house shortly after refinancing could mean you might not be able to take advantage of the cost savings.
When refinancing doesn’t make sense
There are some situations where refinancing should be avoided.
You shouldn’t refinance while chasing slightly lower rates if you’ve built a good relationship with your original lender. In these circumstances, chasing a small reduction in interest rates may prove to be a mistake – as they could easily raise rates once you switch, but you’ve lost the benefits of your good relationship along the way. Going to a new lender for a small rate reduction may mean you are not looked after once you’ve made the switch.
Also, consider how far into your loan you are. If you’ve been paying your loan for 20 years already, refinancing to a longer loan term will reduce your payments in the short term, but will cost you many more years, and thus, more money.
Calculations must also be made in terms of prepayment penalties on some home loans. If you have a penalty on your existing loan, weigh that cost against any savings you would make.
Refinancing is not for everyone. If the current rate on your loan is comparatively low, there is no benefit to be had from refinancing. In fact, you may end up incurring more costs when exit and other administration fees are taken into account.
If the current balance of your loan is already low and you do not intend to redraw on the available equity, then refinancing is usually not very beneficial.
Find the break-even point, which is the amount of savings on the rate necessary to make up for any penalty fees. Some exit fees from loans can be more than $1,000. That value might make the difference for some in determining whether or not they want to refinance.
Those considering refinancing should also consider how their taxes play into the equation, especially for borrowers with an investment property.
The tax office considers the intent of your loan. This means that you may apply for a refinanced loan against your investment property (ie the property secures the loan), but if those funds are not spent on investments, then the loan is not tax deductible. For instance, if you refinanced a $300,000 investment property loan into a $400,000 loan, and used the $100,000 additional funds to renovate your own home, then only $300,000 worth of interest repayments is tax deductible.
Again, it is the intent of the funds that the tax office considers. With that in mind, it is important to always seek advice from your tax professional in order to maximise such deductions.
You also always want to make sure you are operating under the rules of the Australian Taxation Office. Shop around, crunch the numbers, and make sure whatever you do makes financial sense over the long run.
This guide was originally written in November 2015 and updated regularly for style and accuracy. It was last updated in April 2020.