These days, there is an almost never-ending array of loan products to choose from, and scores of lenders to provide them.
And it’s just as well, because more borrowers than ever before are refinancing in order to get a better deal or a structure that suits them better.
In fact, the latest data from the Australian Bureau of Statistics revealed that $19.87 billion worth of loans were refinanced in the month of February alone… the biggest in history.
Let’s be clear, the sharp increase in refinancing has coincided with close to a year of rate hikes by the RBA, so most of us are doing it primarily to save money on interest.
But there are other things to consider, so let’s take a look at the loan types out there, focusing on residential.
Inhabit or invest?
There are two main types of residential loan; an owner-occupier loan for the home you live in, or an investment loan where you borrow to buy an investment property.
In both cases, you need to look at what features you require for the loan.
First, consider the type of repayments you will be making. They can be either principal and interest (P&I), where you’re paying down the principal value of the home and also paying interest on top; or interest only (IO), where you pay the interest on the loan only
Lenders usually require an owner-occupier to pay P&I. If you tried to borrow for an owner-occupier on an IO deal, the bank would require an explanation. They may otherwise feel overexposed to risk. But loans for investment properties are usually IO. This allows the investor to maximise cash flow, tax benefits and freedom to move money around.
Variable or fixed
Now the type of interest, is it variable? Or fixed?
On a variable rate, the interest you pay will change when the bank decides to change its interest rate. If it’s fixed, you can lock in the interest you pay at a certain rate for a particular term…usually between 1 and 5 years. Fixed rates proved particularly handy when the RBA began hiking rates last year. Some borrowers ended up paying about 2% for several years, even as variable rates shot up past 5%.
Variable rates are generally good when interest rates are likely to move downwards in the short term rather than increase. Now that there is talk of an end to rate hikes and the chance for some cuts in the near future, it may be less appealing to lock in a fixed rate.
Your package has arrived
Features available with variable loans include 100% offset, where the savings you have offset the interest you pay on your loan; redraw facilities and the ability to make lump sum repayments; or even a switch feature, where you can switch from variable to fixed.
A lot of banks offer package loans, where you pay an annual fee and that may cover the bank’s valuation fee, the application fee and the monthly fee. Some banks allow you to pay the one annual fee that then covers a number of different loans. Some have an unlimited number, while others cap the number of loans covered by the annual fee.
Back to basics
With variable loans, there is a difference between a basic variable and a standard variable product.
Say your variable loan option is a package, you might be able to negotiate discounts off the interest rate you pay, or you may be a great saver and you have $200,000 in savings. You want the offset feature because you want to keep your savings but also be able to use it to offset the amount you owe reduce the amount of interest you pay and pay off your loan sooner. You can negotiate these things in package loans.
Basic loans on the other hand are different. They are no frills types of loans. They are cheap because they don’t have many features apart from a redraw facility. The bonus is that they often don’t have application fees, or monthly fees. They don’t have offset, but if your loan is less than $250,000, a basic loan will still be cheaper than a package loan.
