By James Lockie
Everyone wants to pay off their mortgage as cheaply and quickly as possible - here are some ideas to help you to do just that.
Most lending institutions offer their borrowers a standard 25-year mortgage. For example, if you borrow $150,000 at 8% your monthly payments will be $1,157.72. If you reduce your term to 20 years your monthly payments will be only slightly more at $1,254.66. The effect of this is huge. On a 25-year mortgage, you will pay interest of $197,317. On the 20-year mortgage you will pay $151,118. This is a saving of $46,199, in interest, by reducing the term, from 25 to 20 years. This may not sound much now, but it may mean the difference between retiring at 60 instead of 65.
If you have taken out the mortgage above, and have settled for a 20 year term and you find you can afford to pay even a little more a month, say $30, then do it. On the 20-year term mortgage described above, a small increase of $30 to the regular instalment, will reduce the term by another year to 18.9 years. If you find you cannot keep this up, then you are free to go back to your old mortgage payment structure, but if you manage to keep it up then you will save a further $9,762 in interest.
If you are lucky and receive a cash windfall, such as a tax refund, or a work bonus, (even if it is modest) use it to reduce your mortgage. In the above example, if 2 years into your mortgage you receive a $5,000 windfall, this will reduce the term of your mortgage from 19 years to 17.7 years. This is a further 1.2 years reduction. If this can be repeated a couple of times, then your savings will be large indeed. Remember that every time the term of your mortgage is reduced, less interest is paid.
As everyone knows your floating mortgage rate will fluctuate. There is nothing worse than having your mortgage payments increase by $50 a month because the Reserve Bank has tightened monetary policy causing interest rates to rise. One way to combat this, when you take out your mortgage, is to pay a larger amount each month. If mortgage rates do go up, as you are paying more, your mortgage payments may not go up at all, or will go up a smaller amount.
If you can divide your monthly payments in half and pay every fortnight, you will save money. This is because there are 26 fortnights in a year but 12 months multiplied by 2 is 24. Using fortnightly payments, you are effectively making another monthly payment each year.
Most people are paid fortnightly or weekly and matching the mortgage payment to come out of the bank account within 24 hours of receipt reduces the ability to spend it all, because your mortgage instalment has already gone. Matching the mortgage frequency to your salary frequency will mean there is no pain in effecting the additional payment.
With a $150,000 mortgage at 8% over 20 years your monthly payments will be $1,254.66. If you pay half the monthly payment of $627.33 each fortnight, the term of your mortgage decreases to just under 17 years. This represents an interest saving of $29,386.
A simple statement, but if you borrow from a lender with slightly lower rate, and this rate persists even for a few years, you will save thousands. There are a number of institutions such as Cairns Lockie that offer lower rates. This should continue over time, as companies such as ours do not have the large overhead structure of the banks and secondly they are willing to offer a slightly lower rate, to attract quality business.
Ten years ago, most borrowers went to their local bank, when they required a home loan. Borrowers knew that banks all charged much the same interest rate so there was little point in shopping around. This has changed recently. We still have the trading banks, and some insurance companies, offering mortgages but the building societies, particularly in certain provincial areas, are starting to reassert themselves. Now there are a number of non-banking institutions that have entered the market.
You now have a real choice.
This wider choice of mortgage lenders has created vigorous competition. It has seen the development of more flexible and lower cost mortgage products, for example: redraw and early repayment options without penalty costs.
Remember you can negotiate with your lender. Tell them you are shopping around. Ask them to comment on other lenders products as well.
It is important to choose a mortgage product that suits your needs. Ask your lender to advise you here. For instance, if you earn most of your income on commission, then you will require maximum flexibility. A mortgage incorporating a line of credit may be most suitable for you. If you are purchasing a rental property, then interest-only may be the most suitable. If you have a large mortgage and you are fully committed, then you should consider fixing a portion. Ask your lender for their comments and advice.
A split or combination loan allows you to split part of your loan between fixed and floating. This essentially allows you to hedge your bets. If rates rise, you know part of your loan is fixed and will not go up. If rates drop you will get part of the benefit. Floating rate loans offer a number of benefits. You can make principal reductions at anytime, change your payments etc. In splitting your loan you can get all the benefits of a fixed rate and a floating rate.
When purchasing a car, household appliance, or even a pair of shoes most people shop around and compare prices and different products. It should be no different when you are looking for a home loan. You are unlikely to buy the first house you see, so why take a mortgage from the first lender you visit. You should contact a minimum of three lenders and one of them should be a non-bank. The questions you should ask each of them are:
Some lenders offer a lower introductory interest rate or a gift if you take out a mortgage with them. We call these offers 'bait and trap deals'. They should generally be avoided, or at least carefully investigated to ensure there are no hidden costs or pitfalls. You may end up paying a higher interest rate once the honeymoon has ended, or if you wish to get out of them there may be significant penalties.
Beware of lenders offering gifts. Someone has to pay for these and that will be the borrower, often at a higher interest rate or with more ongoing fees. Let's face it, who wants a gift, which may be unsuitable, when a lower interest rate and ongoing cash saving leaves the borrower free to choose what to do.
When you are purchasing a new property or refinancing, this is the time to look at your overall debt position. If for instance your credit cards are a little out of control and you have finance company borrowings, to fund such things as home improvements or the second family car, this is the time to consolidate all your debts into your home loan. It will immediately save you money (given a lower interest rate) and give you additional weekly cashflow. If you do this, you must be disciplined in the future, and not revert to adding further short-term debt.
When you have found a new home but you have not sold your existing one, bridging finance is often used. You purchase the new home and fund it on a short-term basis until you sell your other home. This is a dangerous situation to get yourself into. You pay more for bridging finance and there are usually many more costs involved. You have the added risk of what happens if you cannot sell your other house or you may have to heavily discount the sale price or have to let it. We say, be careful and seek independent advice if you are contemplating using bridging finance.
If there is a possibility you may move house during the term of your mortgage make sure your mortgage is portable. Some mortgages are not, and so if you do move house you may be subject to a number of fees. Ask you lender if your mortgage is portable? This is often termed substituting security.
In obtaining a mortgage there are always a number of fees: including an application fee, solicitor's fee, valuation costs etc. It is always tempting to add these to your mortgage. If your cashflow permits it, pay these costs up-front. This means you are borrowing less and you will pay your mortgage off quicker.
If you are a first home buyer, this may not be possible. Having saved hard towards a deposit, it is often better to add these costs to your mortgage. Then use your funds to buy household items rather than paying your set up costs up-front and resorting to expensive hire purchase to acquire household items.
When you borrow from a lending institution you should try and meet and develop a business relationship with your account manager. It is always easier to contact this person to discuss your mortgage when you have specific queries or problems. This is one big disadvantage in borrowing from a bank where there appears to be high staff turnover. Often it is the smaller non-bank lenders who can really offer this personal service. If you build a good relationship it will help you when financing your next property.
Good advice on lending products and about property in general is invaluable. If the lender publishes a mortgage newsletter, either in printed or in electronic form, ask to go on the mailing list. These newsletters are often good sources of information.
Check your mortgage statements when you receive them. Lenders can make mistakes. If you do not understand something about your statement, then contact your account manager.
Agents' fees can be expensive. Like any other service the quality is variable. You should research different agents and check their comparative sales. Which firm has the highest profile in your area? They are the most likely to sell your property, but that does not mean that you have to pay the standard 4% plus agents' fee.
Can you sell your house yourself and avoid fees? Have a look at the do-it-yourself packs and investigate what is available on the internet. You may like to talk to a lender about pre-approved finance for your purchasers.
Never pay the asking price. Do not let emotion rule your decision. Purchasers of rental property look at potential returns and make a rational investment decision.
Whether investing or purchasing your new home, beware of the lemon. Always ensure that any new building or extension has received a certificate of code compliance. Check the LIM report. We always advise our clients to ensure their sale and purchase agreements are subject to at least two conditions:
- Finance satisfactory to you (the purchaser)
- Your lawyer's approval of the sale and purchase agreement
This means that if for some reason you cannot obtain suitable finance or if your solicitor finds a problem with the property or title, you can cancel the contract.
Are the costs justified? Many homeowners are considering putting their property or properties into a family trust. This involves a major restructuring of your personal finances, as well as several additional costs. Our advice is before you do this, talk to several professional people such as your solicitor, accountant and mortgage lender. Also do your own research and establish exactly why you are doing it. Trusts are fashionable at the moment, but this is not the reason to set one up.
James Lockie is a director of Cairns Lockie, Mortgage Bankers, based in Auckland.