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Is Your Fixed Rate Loan About to Mature?
You would have to be living under a rock to miss the news about the RBA’s cash rate increases since May 2022, where we’ve seen it lifted from 0.10% to 3.60% with lenders following suit with interest rate hikes of their own. Throughout this time, many homeowners have been shielded from these rate increases where they have part or all of their home loan fixed. When these portions were fixed before the rate increases, monthly repayments will have remained affordable, only increasing marginally where there is a small variable component. As a result, some may feel immune to the current interest rate situation. What you might not realise is that when the fixed rate period ends (as it typically will after 1 to 3 years), the new repayment amount can be a real shock. So, what can you do?
What Happens When Your Fixed Rate Period is Over?
When you’ve fixed part or all of your home loan for a period of time, your repayments on that percentage won’t change – meaning you have certainty in the short term about how much you’ll pay each month. But once that period ends, you have the option of re-fixing or switching to a new variable rate with both being higher, pushing repayment amounts up. The level to which this is the case can come as an unwelcome shock to homeowners, especially as they may have become accustomed to the repayment amounts under the fixed rate. Here’s an example of the difference in repayments upon the maturity of a fixed rate loan and switching to a variable rate.
In June 2021, Joe and Jane Smith borrowed $500,000 to purchase a home in Perth, with 80% LVR (loan to value ratio) over a 30-year term. Their initial two-year fixed interest rate of 2% means that their monthly repayments were $1,858 – which they found to be very manageable. However, in June 2023, their approximate debt will be $475,000 and the fixed rate loan will mature. Following this, the remaining 28 years of the loan will be set at a new variable interest rate of 5.5%, meaning payments balloon out to $2,774 per month. That’s an increase of $926 per month or around 50% extra coming out of their pockets. That represents a significant strain on the household budget, making the home loan considerably less affordable.
What You Can Do About It
If your fixed rate loan is set to mature in the coming months, now is the time to act! Refinancing your loan before your payments increase sharply can help soften the blow. Continuing the example set out above, if Joe and Jane contact a mortgage broker, they could potentially find a lower interest rate at say 5.18% and bring those repayments back down to $2,681 per month. While this still represents a large increase compared to the fixed rate period, those repayments are certainly easier to digest.
As many Australians will be looking to refinance their home loans when their fixed rate period comes to an end, lenders across the country are working hard to win new business and attract borrowers. Generous cash-back offers are an incentive that several lenders employ to entice homeowners to refinance with them. Of course, not all offers are created equal so having an experienced broker in your corner is key.
Something that homeowners may consider is resetting your loan to 30 years to lower repayments. In the above scenario for Joe & Jane Smith this would further reduce the new loan repayments on the $475,000 loan @ 5.18% to $2602 per month. While this can be appropriate for some, it is worth a reminder that this will increase your total interest repayments over the life of the loan, potentially reducing any gains you would have otherwise made upon disposal of the property. Again, contact your broker to discuss your best options.
The cash rate rises we’ve seen over the past year or so should be slowing down over the next few months, and some commentators even suspect they may drop slightly following a period of levelling off. Once inflation has been reined in and interest rates settle, confidence in the market should stabilise along with it. This means that loans taken out in a few years’ time should offer greater certainty in repayment amounts and hopefully reduce the chances of major shocks when fixed rate loans mature.
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