Doesn’t it seem like there are more home loans on the market now than ever before?
Well, that’s because there are!
Let’s face it: first-tier lenders like the Big Four and second-tier banks such as credit unions are locked in a battle for your business.
The hard part, of course, is determining which is the best home loan for you amongst all their marketing noise.
Interest-only, fixed, variable, offset – finding the investment home loan that’s right for you can seem like a minefield of financial jargon and conditions.
Lucky for you, we’ve prepared this handy ultimate guide to help you decide!
Are fixed interest rate loans a good idea?
Here’s the thing about fixed rate interest rates: they can be a good idea but they can be a bad idea… but it all depends on what your appetite for risk is.
Arranging a mortgage with a fixed interest rate gives you certainty – you’ll know up-front what you need to repay annually.
So this means that once you know what you are going to receive in rent, you can estimate whether there will be a cash surplus or deficit and manage your cash flow accordingly.
But there are cons: such as many lenders will charge you a break fee if you repay more than the fixed rate allows for or if you wish to refinance during the fixed loan term.
Something else to consider is that banks will set fixed rates based on their expert understanding of where they believe monetary policy will go over the short- to medium-term.
So don’t forget that banks will still likely make a profit from you if you’re on a fixed rate… because they probably know more than you (or I!) do about the economic future.
If you’re intersted in 7 questions you should ask if your considering fixing interest rates read Michael Yardney’s blog here.
In short he suggests you ask:
- Will I want to sell my property during the fixed loan period? If so there could be a penalty for breaking your loan commitment.
- Will I want to access the equity in my property to invest further during the fixed period? Often this will come at a cost that may be prohibitive.
- Do I need an offset account? Many borrowers put their savings into this account and the credit balance here is offset against your outstanding loan balance reducing the interest payable on that loan. Most fixed rate loans do not allow an offset facility.
- Can I make extra repayments off my loan?
- What balance of fixed and variable rates do I need for my portfolio?
- How long should I fix my loan for? Now this is a difficult question, but if you believe that interest rates won’t increase for a year or two and after that they will remain high for a number of years, then fixing for a short period such as one or two years may not make sense.
- If interest rates fall further, what will locking in today have cost me?
Are variable interest rate loans more risky?
So, unless you’re keen to take a wager with your bank on the future of interest rates, many investors opt for variable interest rate loans instead.
This type of loan means your payments will fluctuate with a variable interest rate mortgage, which some people might see as risky.
If you ask me, it also means that you can potentially benefit from any interest rate reductions such as the very big rate cuts we received during the depths of the GFC.
Another big pay-off is flexibility – if the loan has a redraw option, you’ll be able to redraw funds from any extra payments you may have made.
And many investors do just that to buy more investment grade properties or to use for renovations to manufacture equity.
You can also choose a split loan, with a mix of fixed and variable interest rates.
There’s also a plethora of package home loans on the market these days that feature split rates, along with credit cards, waived fees, and other products.
As the name suggests, with interest-only loans, you won’t pay anything off the principal.
So, if the value of your property increases, you’ll have that equity even though you’ve paid nothing off the principal.
But if the market flattens, you might not have any equity, apart from the original deposit that you paid.
The sweetener for investors is that, unlike principal repayments, interest payments are tax deductible.
There has been some concerns about the high use of interest-only loans of late, so we are seeing higher rates for these types of loans, which is something to keep in mind.
If you want to, you can also choose an interest-only loan for a period of time while you renovate.
What that means is that your repayments are less than if you’re paying the principal plus interest, so you’ll have cash up your sleeve to pay for your renovations.
Should I have an offset account?
The answer to that question is: Yes!
That way you can retain control of your funds while also potentially benefiting from reduced mortgage repayments.
Let me explain: Products such as offset accounts allow you to use your mortgage as a kind of savings account, offering great flexibility and with interest calculated daily.
For example, you could have your salary paid into your offset account, which is linked to your home loan.
The balance of your mortgage will be reduced by your offset balance, meaning that you’ll pay less interest over the long-term.
But you’ll still be able to withdraw your cash when you need it!
Be mindful however that most offset accounts are linked to variable rate loans rather than fixed rate loans.
Are lines of credit more trouble than they’re worth?
Also known as a home equity loan, a line of credit home loan allows you to use the equity in your existing property to secure your investment loan.
Rather than receiving a lump sum, you can access as much or as little of the loan as you need.
As you’ve probably guessed, this type of loan means financial discipline is vital.
You don’t want to get yourself in a situation where you’re dipping into your equity for impulse spending such as a new car or exotic overseas holiday.
A line of credit is only a good idea if you have the financial know-how to manage the temptation and to only invest it into income-producing assets.
The bottom line on home loans…
Here’s the thing: whichever loan you choose, seek professional advice and shop around to compare competitive rates before making a decision.
That way, you can make sure you’re making an educated decision on the best loan for you.
And you have to remember that home loans can be life – not just for Christmas – so you need to choose wisely every single time.