When is refinancing worth it?
3rd September 2020 - Freya Cormack
While interest rates are low, refinancing can be a smart move to make. If you purchased your home a few years ago, you’ll likely be able to make some significant savings by refinancing to a lower interest rate.
Even homeowners who purchased or refinanced very recently may benefit from seeking out a lower interest rate.
Although refinancing is frequently a good option for many homeowners, it’s not always the way to go. It’s important to determine whether refinancing will be worthwhile before you get started.
Should I refinance for a 0.5% interest rate reduction?
0.5% may sound marginal, inconsequential, and not worth the time spent on refinancing. However, even a small rate reduction can make all the difference. If you intend to own your home for a long time, you should regularly look into refinancing.
Let’s look at how much you could save with a small 0.5% interest rate reduction:
If you had a $500,000 loan balance with a 4% interest rate and a 20 year loan term, your monthly repayments would add up to about $3,030 per month. If your interest rate was 3.5%, you’d pay about $2,900 per month.
This way, you’d save $130 per month and $1,560 per year. In just 5 years, you will have saved $7,800. Imagine what you could do with all that extra cash!
But before you eagerly start refinancing, let’s take a look at how much it might cost to do so.
The costs of refinancing
There are almost always costs involved with refinancing, so it’s a good idea to to assess whether the benefits of refinancing outweigh any costs involved.
One of the most common refinancing costs comes with switching from a fixed interest rate home loan. When homeowners refinance their fixed rate mortgage before the fixed period ends, they are usually charged break costs. Break costs can be expensive, always ask your bank how much you can expect to pay.
Lenders Mortgage Insurance (LMI) is another cost that can arise when refinancing. You may have heard of LMI when you initially applied for your mortgage. Usually LMI is charged when a home buyer has a deposit of less than 20% of the property’s value.
However, homeowners with less than 20% equity can also be charged LMI. Equity is not just about how much of your loan you’ve repaid. It accounts for the difference between your property value and remaining loan balance. Property values can fluctuate with the market, and are influenced by renovations, changes in the neighbourhood, infrastructure, schools and more.
Before you refinance, check whether your costs will be outweighed by the benefits of refinancing. Otherwise, it might make more sense to wait.
Other refinancing costs can include:
- Exit and discharge fees
- Mortgage registration fees
- Application, establishment and loan maintenance
- Cost to value your property
Related: How to cope with mortgage stress
How much do mortgage brokers charge?
One cost you don’t need to worry about is a mortgage broker fee. Brokers don’t charge borrowers for their service as the bank pays the broker after a home loan gets settled.
If you encounter a broker who wants to directly charge you, look elsewhere.
Should I stay with my bank or find a new one?
Everyone’s circumstances are different, so what works for you won’t work for others. While remaining with your existing bank can be easier and familiar, you should look at the overall picture.
If you can get a better home loan deal elsewhere, it might be best to move on. Don’t just look at what interest rate you could get. You should consider the overall home loan package and how the bank operates.
Some banks make mortgage repayment easy, through a phone app, while others don’t offer that convenience. Some banks are also easier to contact and communicate with than others. Always think about what you value and prioritise with your home loan.
Nowadays, there are a broad range of banks and lenders offering competitive home loans. You’ve got traditional major banks, mid-size regional banks and emerging online lenders to consider.
Refinancing when your life and finances change
There are so many reasons to consider refinancing, beyond just getting a lower interest rate. Since most home loan repayment terms are between 20 and 30 years, you are likely to experience changes in your income and personal circumstances.
For example, you may get a pay rise and decide that you’d like to pay off your mortgage faster. By increasing your repayment size or making extra repayments, you could make this possible.
If you want to do this, make sure you are realistic about how much you can increase your repayment amount by. Always think about how your lifestyle might be impacted and whether this is a change that you can actually afford to make.
If you’d like the flexibility to make additional repayments as you please, a home loan with a variable interest rate might be the best option for you. You can make unlimited extra repayments and access money-saving loan features. So, if you get an unexpected sum of money (e.g. a tax refund or inheritance), you could put it towards your mortgage.
Most fixed rate home loans won’t allow uncapped extra repayments, but you may be able to make a few.
Alternatively, if you are experiencing an income reduction, you might want to pay less every month. By reducing your repayment amount, your loan term will increase and you’ll end up paying more in interest. Speak to a broker or financial adviser for advice on whether this is the best option for you.
Your home loan shouldn’t be a source of stress in your life. There are plenty of life changes that can lead to refinancing.
Don’t know how to refinance?
If you’re overwhelmed by the refinancing process, consider using the services of a mortgage broker. They can remove a lot of the pressure and provide you with guidance throughout. Since they are home loan experts, they may be able to negotiate with different banks to find you a suitable new mortgage.
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The information in this post is general in nature and should not be considered personal or financial advice. You should always seek professional advice or assistance before making any financial decisions.
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*WARNING: This comparison rate is true only for the example given and may not include all fees and charges. Different terms, fees or other loan amounts might result in a different comparison rate. The comparison rates are based on a loan amount of $150,000 over a loan term of 25 years. Fees and charges apply. All applications are subject to assessment and lender approval. Quoted rate applies only to PAYG loans with LVR of 80% or less with security in non-remote areas. All applications are subject to assessment and lender approval.
^The estimated average future interest savings is calculated as at 15 April 2020 based on Lendi assisting customers into new loans with an average interest rate reduction of 0.89% for the 11 months prior, and assuming a median loan term of 26 years on both the old and new loan and all monthly principal and interest repayments will be made on time. Any future savings figures are estimated averages only, and do not take into account any product features or fees (including refinancing or break costs). Your savings will be different.