Being home loan smart - making sense of the mortgage menu

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So you have your eye on a house and you’re thinking “that’s the one”....what next?

Buying a house could be something you’ve always wanted to do - it may just feel right - or you may have been renting for years and you’re sick of landlords, or you just want to settle down in a place to call home.

Whatever the reason, if you are new to this, there’s quite a lot of homework to do.

This blog is the first of two about being home loan smart, part of the prep needed for getting on the property ladder.   It will help you understand the different types of loans so you can figure out what structure is best for you.

In the second blog, we will go over a few examples of the most popular loan types.  But first, here is a list of the different home loans and their respective pros and cons:

1.      Interest Rates

○       Fixed Interest Rate Loan

Just as its name suggests, this means you can take out a loan with a fixed interest rate for a set number of years.  These types of loans are very popular.

If you're the kind of person who values consistency and certainty, this option guarantees that the interest rate accompanying the payments for your home won't fluctuate within a given period. This allows you to plan your finances and avoid any surprises.  

Some people don’t like fixed interest rate mortgages because they are inflexible.  If the interest rate goes down during a fixed term you may lose out, but likewise if they go up you may be better off. 

However, they are a sensible choice compared to floating rates, which are usually higher simply because you are paying for flexibility.

One downside is in the event you decide to change your mortgage or even sell the property before the agreed term ends, you will be charged a “break fee” - sometimes it can be worth paying this to achieve a better interest.  But you will need to get your calculator out to make sure.

○       Floating Rate Loan

As opposed to the previous option, the Floating Rate Loan rises and falls along with the declared interest rate set by your lender, which in turn is based on those set by the Reserve Bank of New Zealand.  The RBNZ, as it’s often called, is New Zealand’s central bank and is responsible for the country’s monetary policy, including interest rates. 

The big benefit of a floating loan is the ability to easily make extra repayments towards the principal of your loan.  If you regularly spend less than your income, this could be a good option. 

○       Split Interest Rate Loan

This third option means that you can have more than one loan and have both fixed and floating interest rates. 

If you prefer the certainty of a fixed interest rate but also want the flexibility of a floating one, this is the best of both worlds.  You can also leave a proportion floating equivalent to the extra amount you think you may be able to pay off in a set period of time.  This is more complicated to set up but can be worth it.

2.      Repayment Loans

○       Table Loan

This is one of the common types of home loans and it works by choosing a Fixed Interest Rate Loan and then paying off the interest early in the loan term and the principal later on.  The main difference is the ability to choose a longer term, up to 30 years in some cases. 

If you are the type of person who likes making scheduled or regular payments every week or month, the table loan provides that sense of order.  However, if you don't have a steady source of income, or you can’t predict it will be steady in the long term, this could be a difficult or inconvenient option.

○       Revolving Credit Loan

This is where your bank account is also your mortgage debt: it’s a slightly complicated structure but can deliver significant benefits.  These are sometimes called ‘line of credit’ loans and help you save interest charges by reducing your daily loan debt as much as possible.

It works by you putting all your earnings into the mortgage debt thereby keeping debt lower for longer. 

The main benefit is it can reduce your interest payments and your loan quicker, especially if you have spare money to pay off the debt.  The downside is you have to be very disciplined.  

○       Offset Loan

The benefits of an offset loan is very similar to the revolving credit, in that the money you have in your bank account is used to offset the debt in your mortgage.

The benefit of this is that your mortgage and bank accounts aren’t combined, as in the revolving credit example.

Like the Revolving Credit Loan, financial institutions also compute the interest for this kind of loan daily. If you're able to credit more cash into your account, this helps to lower your overall interest cost.

The disadvantage is that your savings will not earn any interest as they are being offset against your mortgage.

○       Reducing loan

Also called a Straight Line Mortgage, a Reducing Loan lessens the interest with each repayment. This type of loan is quite rare because of its upfront price. With this type of loan, over the course of a few years, you can look forward to paying less interest than a table loan, so it may be a benefit if you can foresee your future income level. .

○       Interest-only loan

This type of loan is popular with property investors as it allows them to claim the maximum amount of interest charges for their investment property. 

Most lenders won’t offer this type of loan to first home buyers, as they want to see their loan being paid off.  At the end of the day,  it’s important to learn the discipline of paying off your principal and interest, because this benefits any borrower, both in the short and long term.

Learning about the financial side of buying a house can be complex so it’s always best to seek some expert advice.  Above we’ve provided an overview of the different loan types, and we will expand on this in our next blog.

At Taurus Home Loans we are always keen to have a chat and help you decide which type of loan suits your situation.  Why don’t you give us a call, we will buy you a coffee and listen to what you want to achieve.


Posted 27 Aug 2019