Is now a good time to refinance your home?

by Carlisle Homes

Don’t treat your mortgage as if it’s set-and-forget. Now might be a good time to refinance your home. Here’s what you should know.

Once you’ve got that home loan sorted, it’s tempting to put the paperwork behind you. But treating your mortgage as if it’s set-and-forget can cost you dearly in the long run. With interest rates at rock bottom, now might be the best time to consider if you should refinance your home.

Refinancing can get you a lower interest rate or free up equity to renovate or buy an investment property.

Every situation is different, but if it’s been more than 18 months since you took out the loan (or last refinanced) it’s worth taking another look. The RBA has cut the cash rate to a rock-bottom 0.10%, and has signalled that they don't expect to raise the rate until at least 2024.

However, it’s not right for everyone. Here’s how you know if it’s time to refinance:

If you have a variable loan

Even a 0.5% interest rate decrease can save you money. On a $500,000 mortgage with a 2.5% interest rate and 25 year term, you’ll be paying around $2,253 per month. Decrease that interest rate to 2% and your repayments drop to $2,129 per month. That’s a saving of $124 per month or $1488 per year.

However, if you have a fixed rate loan the calculation changes. Fixed loan products have break fees, meaning that if you end the loan before the fixed term expires, you will be charged a fee.

Break fees vary. They depend on:

• How much the loan is for;
• The remaining term of the loan; and
• The amount by which interest rates have dropped since the loan was taken out.

As an indication, the break fee on a $500,000 loan fixed at 2.5%, where interest rates have fallen to 2%, might be ($500,000 x 4 (years remaining on the loan) x 0.5 (interest rate difference) or $10,000. That’s the equivalent of eight years’ worth of savings. There is also a discharge fee, which is approximately $200-$250 in most cases.

Unless you are very near to the end of the fixed term period, you probably won’t save money by refinancing. However, have a chat to a mortgage broker if you’re unsure. They’ll be happy to run the numbers for you.

If you have at least 20% equity in your home

Refinances are treated the same way as any other loan application when it comes to the loan-to-value ratio (LTV). If your LTV is under 20%, you will need to take out lender’s mortgage insurance (LMI). LMI is charged as a lump sum, even though it’s added to the loan amount. This means that if you refinance and need to take out LMI again, it will be a second lump sum on top of the one you already incurred. Learn more about the lending lingo here.

If your original loan was recent and you only had a small deposit, you’ll need to check if you now have 20%. Different lenders may value your property differently, so you may need to assess your financing options if you’re only just over that 20% mark.

If you want to free up equity

If your current interest rate is competitive, is there a point to refinancing? For those with some equity in their home, yes. Refinancing is also an opportunity to borrow against the current value of your home. If that has gone up since your original loan, and you can service higher repayments, you can borrow more.

This is ideal for those who want to unlock equity and buy an investment property, or undertake renovations on the family home.

Do be aware that while interest rates are very low right now, they may rise in the future. Before you borrow additional funds, make sure you can comfortably meet those repayments even at a higher rate.

Your employment has stayed steady

If your job was affected during the COVID-19 lockdowns, and you had to take a repayment holiday, you may not be able to refinance. This is very case-dependent, though, so don’t give up. It will depend on:

• How long it has been since the repayment holiday ended
• Whether you are back in the same or similar employment
• The industry in which you work
• Whether you have been able to rebuild your savings
• What your overall credit is like

A short repayment holiday followed by evidence of strong financial habits is unlikely to disqualify you. However, if there is evidence that you are unable to meet future repayments, you may be declined. In this case, it’s best to wait another six months or year until you’re back on your feet and try again.

If this sounds like you, it’s probably worth making contact with a mortgage broker. Refinancing follows a similar process to your original loan application. Expect to provide:

• Evidence of your employment
• Bank statements
• Self-assessed living expenses

The bank will also do a credit check and an updated valuation of your property.