A home loan, also known as a mortgage, is money borrowed from a bank or financial institution to purchase or refinance a home. Home loans allow buyers to pay for their house over an extended period of time, typically 15 to 30 years. They provide several key benefits compared to paying cash upfront:
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More affordable payments: Rather than paying the full purchase price at once, home loans allow you to make smaller monthly payments over many years. This makes homeownership accessible to more buyers.
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Leverage: Home loans allow you to leverage the bank’s money to purchase a more expensive house than you may be able to buy with cash savings alone. As the house appreciates in value, you build equity.
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Interest deductions: In many countries, mortgage interest can be deducted from your income taxes. This provides a great tax advantage.
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Building credit: Making regular on-time loan payments helps improve your credit score over time. Good credit opens the door to better loan terms in the future.
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Free up cash: Keeping your cash to invest rather than tying it all up in your home allows for greater financial flexibility and the potential to earn higher investment returns.
The key is to shop around for the best rates and terms. Paying down principal faster through extra payments or an offset account saves on interest costs over the life of the loan. Refinancing at lower rates when possible also saves money. With the right home loan strategy, you can build equity and wealth through homeownership.
How Home Loan Interest Works
When you take out a home loan, you typically pay interest to the lender on top of repaying the amount you borrowed. This interest accrues daily based on the outstanding loan balance, and is calculated using the advertised interest rate.
For example, if you have a $300,000 home loan at 3% interest, you would accrue around $246 of interest per month in the first year (3% of $300,000 = $9,000 per year, or $750 per month). This interest gets added to the total amount owing each month.
As you make repayments, the balance reduces so you pay less interest each month. In the early years interest makes up a large chunk of the required repayment amount. But in the final years of the loan term, the majority of repayments go towards paying down the principal.
The total interest paid over the life of a home loan can be tens or hundreds of thousands of dollars. So when taking out a mortgage, it’s important to shop around for the lowest rate possible to minimize interest costs. Fixed rates around 2-3% from lenders can save substantially compared to 4-5% variable rates over 25-30 years.
While interest rates are the main driver of total interest paid, other factors like loan size, term length, and fees also impact overall costs. Borrowing only what you need, and opting for a shorter term if affordable, can result in major interest savings.
Making Extra Repayments
Paying off your home loan faster can save you tens of thousands of dollars in interest payments over the life of the loan. Making extra repayments is one of the most effective ways to pay down your mortgage faster.
When you make an extra payment on your home loan, the extra money goes directly towards reducing your loan’s principal balance. This reduces the amount of interest that accrues on your loan over time. For example, if you make an extra $500 payment, that $500 is deducted from the amount you owe rather than just covering that month’s standard repayment amount. The savings add up exponentially over the years.
Every extra repayment you make brings you closer to paying off your home loan sooner. Even an extra $50 or $100 per month can make a significant difference. To maximize your savings, make extra repayments as early and as frequently as you can afford. The longer your loan is active, the more interest accumulates. Paying extra in the early years when your balance is highest provides the greatest savings.
Before making extra repayments, check with your lender about any limitations. Some loans allow unlimited extra repayments while others restrict how much extra you can pay each year without incurring penalties. You’ll also want to ensure the extra payment is applied directly to the principal rather than just held until your next payment date.
Reducing your home loan term by even just a few years through extra repayments can save tens of thousands in interest. Crunch the numbers to see just how much faster you could be mortgage free.
Offset Accounts
An offset account is a savings or transaction account that is linked to your home loan. It works by “offsetting” the balance in your savings account against the balance of your home loan.
Here’s how it works:
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Any money you deposit into your offset account reduces the interest charged on your home loan. For example, if you have a $300,000 home loan and $20,000 in your offset account, you only pay interest on $280,000.
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You are not charged any interest on your offset account. Your money sits in there interest-free while reducing your home loan interest.
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You can still access the funds in your offset account any time like a normal bank account. The offset kicks in again when you replenish the account.
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Most offset accounts allow internet banking transfers between the home loan and offset to maximize your interest savings.
The main benefit of an offset account is you can reduce your home loan interest while still having access to your cash. It essentially provides an interest-free loan equal to your offset balance.
Offset accounts work best for disciplined savers who keep surplus funds in their account. The more you can keep in your offset and the sooner you start, the more interest you’ll save over the loan term. Even small balances can make a difference.
Before opening an offset account, compare rates and features across lenders. Not all offset accounts are created equal. Look for no account keeping fees, unlimited transactions, and the ability to link other offset accounts. Also ensure it allows a 100% offset of your balance.
Overall, offset accounts are a great way to get ahead on your home loan and may save you tens of thousands in interest over the long run. Use them strategically as part of an overall plan to pay down your mortgage faster.
Mortgage Redraw
Many home loans have a redraw feature, which allows you to access extra repayments you’ve made on your mortgage. This can give you flexibility if you need cash for other expenses.
When you make extra payments on your mortgage, the money goes into an offset account or redraw facility. It reduces the interest you pay by decreasing your loan balance. But the extra funds remain accessible to you.
With a redraw facility, you can withdraw some or all of your spare repayments back out of the loan later if you need them. This is different than refinancing, as the redrawn money is still on the same loan. It simply returns your loan to a higher balance and payment amount.
Redraw features are useful as a cash flow tool. For example, you may deposit a work bonus to your mortgage to save interest. But several months later, redraw it for a home renovation. Or you can keep spare funds there rather than in a transaction account, benefiting from the interest savings, knowing you can access the money reasonably quickly.
Rules and limits apply to redrawing spare repayments. Lenders often allow redraws of a minimum amount, like $1,000. They may limit how many redraws you can make per year and cap the portion you can redraw at any time, like $30,000 or 80% of the extra repayments. Some loans charge fees for each redraw.
Consider the costs, flexibility, and risks before using a redraw facility. Compare home loans to understand the specific redraw features. Use redraws strategically, not to overextend your finances. Track your redraw balance, so you know the spare equity available. A mortgage redraw can provide a helpful cash flow tool when used responsibly.
Refinancing
Refinancing refers to taking out a new home loan to replace your existing one. There are a few key reasons why refinancing your mortgage can potentially help you save money:
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Lower interest rate – Interest rates fluctuate over time. If current interest rates are lower than what you locked in originally, refinancing could lower your rate and monthly payments. This works best if you plan on staying in your home long-term.
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Shorter loan term – You may be able to refinance into a shorter loan term (e.g. 15 to 10 years). This increases your monthly payment but pays off the loan faster, reducing total interest paid over the life of the loan.
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Cash-out refinance – This allows you to borrow more than what you currently owe and take the difference in cash. This can help finance home renovations or other major expenses. However, it increases your loan balance and total interest costs.
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Ditch mortgage insurance – If you’ve built up at least 20% equity in your home, refinancing could allow you to cancel private mortgage insurance and stop paying the premium.
The key is running the numbers to see if refinancing results in decent savings even after accounting for closing costs on the new loan. It also only makes sense if you plan to stay in the home long enough to recoup those closing costs through the monthly savings. Refinancing too frequently can also backfire. Consult with a mortgage broker or lender to discuss your specific situation.
Comparison Rates
When shopping for a home loan, one of the most important things to compare is the comparison rate. The comparison rate, also known as the “true annual percentage rate,” gives you a better idea of the true cost of a loan over its lifetime, allowing you to accurately compare loans between different lenders.
The comparison rate includes both the interest rate and fees of the loan, such as establishment fees, ongoing fees, discharge fees, and any other required payments associated with the loan. By law, lenders must provide you with a comparison rate when providing a loan quote. This allows you as the borrower to get a clear understanding of the total cost of the loan, rather than just looking at the interest rate alone.
Some key things to know about comparison rates:
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They are quoted as a percentage figure, allowing you to easily compare rates between lenders. Typically, the lower the comparison rate, the better the deal.
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They take into account the applicable fees and charges of the loan. The interest rate alone does not indicate the true cost.
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They allow you to compare loans with different features and fee structures. For example, you can use them to compare a basic home loan with a loan that has an offset account or other features.
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They assume you will have the loan for a set period of time, usually 25 years. This standardised timeframe allows for an apples-to-apples comparison.
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They are based on secured loans up to $500,000 with standard loan features. Different loan amounts or non-standard features may change the comparison rate.
Overall, be sure to obtain and scrutinise the comparison rates from multiple lenders when shopping for a home loan. It is one of the best tools available to understand the true cost differences between loans and make an informed decision. Taking the time to compare comparison rates can potentially save you thousands over the lifetime of your mortgage.
Negotiating With Lenders to Get the Best Deal
When taking out a home loan, it pays to negotiate with lenders to get the most competitive interest rate and fees. Here are some tips for negotiating like a pro:
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Shop around. Get loan quotes from at least 3 different lenders so you can compare interest rates and features. This gives you leverage when negotiating with lenders.
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Ask for a discount. Don’t be afraid to ask lenders if they can provide a lower interest rate. Sometimes they can shave 0.10-0.25% off.
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Mention competitor offers. Let the lender know if you’ve received a better offer from another lender. They may be able to match or beat it.
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Look for lender flexibility. See if the lender can remove loan fees or provide other concessions like a rate lock or variable rate.
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Request bonuses or perks. Ask if the lender offers any incentives for new borrowers, like cashback or a year of no mortgage insurance.
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Improve your creditworthiness. Boost your credit score and clear any outstanding debts. A healthier financial profile gives you bargaining power.
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Consider a mortgage broker. An independent broker can shop loans from multiple lenders and negotiate on your behalf.
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Timing matters. Rates fluctuate so it can help to monitor rate trends and lock when they dip.
With the right preparation and negotiation tactics, you can secure the very best home loan deal to minimize interest payments and costs. A bit of effort upfront can save thousands over the loan’s lifetime.
Budgeting to Save for Your Mortgage
One of the best ways to pay down your mortgage faster is by budgeting to find extra money that can be put towards extra repayments. Here are some tips to help you budget and save more money for your mortgage:
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Review your monthly spending and look for areas where you can cut back – such as dining out, entertainment, subscriptions, or other non-essential expenses. Any savings here can be put towards extra mortgage payments.
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Meal plan and meal prep to cut down on food waste and impulse purchases. Planning meals in advance and cooking at home helps save a lot on your grocery bill.
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Look for ways to lower your bills and recurring expenses. Call service providers to negotiate better rates, downgrade to cheaper plans if possible, or find cheaper alternatives.
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Set up automatic transfers to have a set amount go from each paycheck into a separate savings account for your mortgage. This money builds up over time for extra lump sum payments.
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Take advantage of windfalls like tax refunds, bonuses, or gift money by putting them directly towards mortgage principal. Don’t let the extra funds get absorbed into everyday spending.
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Consider taking on a side gig or finding additional income streams. Use this extra income exclusively for extra mortgage payments for amplified impact.
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Get the whole family involved in saving goals. Have kids help clip coupons or set up chore charts where they earn towards mortgage payments.
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Avoid relying on credit cards or loans to fund lifestyle inflation. Focus on living within your means and funneling the savings to pay off your mortgage faster.
With focus and discipline, most households can find an extra few hundred dollars a month to put towards the mortgage through careful budgeting. Developing smart money habits pays off exponentially by shrinking interest costs over the life of the loan.
Conclusion
In summary, there are several effective strategies that homeowners can utilize to save money on their home loan with a bank.
The most impactful way is to make extra repayments towards the loan principal. Even small, regular additional contributions can shave years off the loan term and reduce total interest paid over the life of the loan. Setting up an automatic transfer into an offset account or mortgage offset account is an easy way to build extra repayments into your budget.
Refinancing the home loan to a lower interest rate can also lead to considerable interest savings over time, especially if rates have dropped since you first took out the loan. It’s important to compare rates and weigh refinancing costs against the potential savings. Negotiating with lenders at the outset or when refinancing may help secure a more competitive rate.
Maintaining a tight budget and funneling any extra income into the mortgage can accelerate payments. Redraw facilities allow access to extra repayments if needed for other expenses. But overall, disciplined budgeting and cutting discretionary costs can enable higher repayments.
Smart strategies with home loans can save tens of thousands of dollars in interest over the long run. Doing research, taking advantage of bank products, and making fiscally wise choices will lead to optimal interest savings.
