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Last Updated on 18 October 2018

How to Reduce Your Home Loan Debt


Are you looking to reduce your mortgage? Maybe you’re thinking of taking out your first home loan. Or perhaps you’re looking to refinance. At Rate Comparison, we help Aussies on their home loan journey, no matter which stage you’re at.

You might have a few questions on your mind or simply be curious about ways you can reduce your home loan debt. Mortgages don’t have to become burdens. With this quick guide, you can reach your mortgage goals and find an effective balance between your ideal lifestyle and an ideal mortgage term.

 

Key Points
  • You can reduce your home loan debt by lowering interest rates. You can do so through offset accounts, or by increasing the frequency of repayments and/or increasing your repayment amount.
  • Refinancing can also reduce your mortgage. Another reason people refinance is to free up cash for renovations, holidays or investment. Be aware that you’ll have to increase your monthly repayments to pay off the lump sum you withdrew.
  • It’s a good idea to reassess your home loan rate periodically to ensure you’re getting the best bang for your buck. We can help you compare rates to see whether you could be saving more money.

Do Home Loan Repayments Decrease Over Time?

The payments don’t decrease, but the interest rates will. At first, it may seem like most of your hard-earned cash is going towards paying interest, rather than paying off your home. Don’t feel deflated – this won’t be forever. Over the years, you’ll see the hard work pay off as interest rates decrease and you chip away at your loan faster.

But why do interest rates decrease over time? Your loan is broken up into two parts – interest and principal. Principle simply refers to the amount of money you borrow. Interest is an additional amount of money you need to pay on top of the principal. It’s basically a fee for borrowing money.

You will notice that as you make repayments over time, the interest component will start to decrease, and the longer you pay off your home loan, the smaller the interest proportion will be.

This process is called amortization.

Should I Refinance?

Let’s start by defining what “refinance” means and why people might choose to do it. Refinancing, in short, is financing your home again, typically with a lower interest rate. This can be done with your existing lender or a different one. People refinance for a number of reasons.

Benefits of refinancing include:

  •  Better interest rate
  •  Reduce monthly repayments
  •  Access equity for renovating, holidays, or investment
  •  Have some extra cash in the bank
  •  Greater flexibility
  •  Consolidate debts

Let’s look at some of these situations more closely.

If your life circumstances have changed in some way and you find yourself unable to afford your mortgage, you may want to consider refinancing your home. This frees up cash so that you have more money in your pocket for spending and living.

In another case, you may be comfortable with your repayments but see potential in locking in a lower interest rate by refinancing. Why wouldn’t you? There’s no harm in comparing options every now and then to see whether you could be saving money.

If you are unsure, you should speak to your lender to further explore your options, or if you’re ready to check out whether you can lock in a better rate, you can compare home loans here.

Access Equity for Renovations

Let’s say you’d like to renovate your existing home. You can refinance to free up cash and use the lump sum for renovation expenses. You just have to ensure you set realistic expectations and don’t overspend – as you will have to pay the money back. Do your calculations beforehand to determine whether you will be able to comfortably make higher repayments in the future.

You don’t want to find yourself under financial pressure. In saying this, don’t be put off by the idea. It can work really well if you do your research and set realistic and manageable goals.

Enjoy Greater Flexibility

Offset account: An offset account is like a savings account, except linked to your mortgage. If you have $20,000 saved in your offset account, for instance, then typically, $20,000 worth of your principle will be interest free.

Redraw facility: A feature that allows you to withdraw any money you have previously contributed as an extra repayment towards your loan.

Split facility: Allows you to have both fixed and variable rates on your loan at the same time.

If you’re purchasing your first home, you may not necessarily want or need a great deal of flexibility. A basic home loan might be better suited to you, as you won’t have to worry about extra fees or complicated features.

However, depending on your circumstances and life stage, you may want to look into things like an offset account, redraw facility and split facility.

Consolidate Debt

Another popular reason for refinancing is to consolidate debt, or in other words, group all of your debts (such as car loans, personal loans and credit card debt) into one, with your mortgage.

This will not always be the ideal solution for everyone. You’ll need to do your research to determine whether it will be more cost-effective to have your debt consolidated rather than paying off your loans separately.

Remember to take interest rates and fees into consideration, and only make the switch if it becomes more affordable to do so.

How Often Can I Refinance My Home?

You can refinance your home as many times as you like, but there does come a point where refinancing will end up costing you rather than saving you money. This is because there are fees involved in refinancing.

Consider refinancing only when necessary, or if you see an opportunity for significant savings. If there is no change in your life circumstances, and no money to be saved, it makes sense to stick with what you have.

How Can I Reduce My Home Loan Debt?

There are certainly ways to become more financially savvy when it comes to paying off your home loan. Options include budgeting, refinancing, opting for an offset account and altering your monthly repayments. No one solution will work for all, but we’ll look into each option so that you can decide what’s right for your personal circumstances.

Offset Accounts

An offset account is like an everyday bank account. The difference? It’s linked to your mortgage and essentially works to lower your interest rate. But how does it work?

Just like a savings account, you can keep a lump sum stored in there. You can also link your salary to your offset account, though this is optional.

For instance, say you keep $20,000 in your offset account. Consider this your savings. Let’s say your home loan is $400,000. You will only pay interest on $380,000, because the other $20,000 is stored elsewhere, interest-free. An offset account can provide huge savings. The downside? Extra fees. The benefit of an offset account doesn’t come for free. But it may be worth it.

Budgeting

When taking out a home loan, it’s important to generate a budget and stick to it. While it may be tempting to spend a little more on your ‘dream home’ or to get an extra feature, you don’t want to put yourself under any financial pressure in the future.

Buying a home you can’t afford will not turn out well. Consider renovating if this is a cheaper option for you. If you decide to go down this path, a quick rule of thumb – don’t spend more than 10% of your property’s total value on renovations.

Reassess Finances

Often when taking out a mortgage, humans adopt a complacent mentality and don’t often consider making changes when it may benefit them. Don’t feel that the deal is done and dusted or ‘fixed’ because there is always room to move down the track, should you want or need the flexibility.

You may want to reassess your mortgage for a few reasons:

  • When personal circumstances change
  • When considering your future needs and goals
  • When you experience changes to your income
Changes in Personal Circumstances

Life is unpredictable. Things change whether we want them to or not. But your wallet doesn’t have to pay for this fact of life.

There are options out there if you find yourself in a new situation. Whether you’ve recently become single, just tied the knot, had a baby or taken out a car loan, you may want to question whether your lifestyle is being compromised.

Whatever your situation may be, it’s always healthy to check in periodically and adjust your repayments if need be.

Future Needs and Goals

Before signing the papers and taking out your new loan, or refinancing an existing one (how exciting!), be wary of any additional fees or charges that may apply.

You can save yourself from overpaying by asking whether the following charges are applied to your loan:

  • Establishment fees
  • Lenders’ mortgage insurance
  • Ongoing fees
  • Fees for breaking a fixed rate mortgage
  • Early exit fees
  • Discharge fees
  • Refinancing fees

Decreasing Your Repayments

We’ve spoken a lot about increasing your repayments, and while this is beneficial, it’s not always doable. On the other hand, decreasing repayments will free up some extra cash for you to spend. In the short-term, this could take away financial pressure and improve quality of living.

Take advantage of this if you have a variable rate (paying for principle and interest) and your lender has reduced the interest rate, or if you’ve gotten ahead by making extra repayments previously.

It’s all about the balance between living comfortably and paying off your home quickly. The best way to achieve this balance is to take each and every point mentioned above into consideration. You can have the best of both worlds.

Disclaimer: The above information is correct and current on 2nd February 2018


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