Do you remember when the pandemic started, how ME Bank executed an untimely (and ultimately abandoned) recalculation of people’s withdrawal funds? I’ve been saying for years that extra money held directly in a mortgage is at the mercy of such a decision.
It can be locked up and inaccessible if a mortgage lender assesses that you are in financial difficulty. You’re committed to making monthly repayments, and if a lender suspects you won’t be able to make it soon, the fine print often permits.
However, lenders are now obliged to offer those in financial difficulty special arrangements – if the borrower informs them that they are in financial trouble.
Instead, by storing any extra money in an offset account, you get an effective and significant interest savings over the life of the loan.
So how much interest can you save by simply putting your emergency savings into a clearing account? Depending on your interest rate and level of borrowing, you could triple the money you put in there.
More importantly, the money is quarantined from the loan and your debt itself, which is crucial for tax reasons if you later want a higher loan balance if you decide to turn your home into an investment property. .
Take advantage of a fixed rate… with care
Thus, a fixed interest rate is no longer what it used to be. They have increased considerably.
The time to buy a fixed rate mortgage rather than an adjustable rate mortgage is usually when expectations of the next rate move are down, not up. That said, the fixes could still be below the levels that interest rates will eventually reach (don’t panic: they shouldn’t go far, fast).
I asked mortgage comparator mozo to do an analysis and 84 of the 90 lenders in their database have raised their fixed rates this year. The big four banks have done this on several occasions, including just before Easter for ANZ and Westpac.
What are your beat-this cues? For a one-year correction, the average rate increased by 0.52 percentage points to 2.41%, for two years it increased by 0.97 points to 2.56%, for three years it is from 0.95% to 2.9%, for four years, from 1.05% to 3.21% and for five years, also up 1.05%, to land at 3.36%.
But going back to the offset account strategy listed above, most offset accounts associated with fixed rate loans are, well, garbage. If there is, you probably won’t get the full interest rate savings.
The lack of a decent compensation option is one of the reasons I only advocate fixing half of your home loan and for a maximum of three years.
“Strains, but still strains”
Think you’re at the mercy of the Reserve Bank’s interest rate hike? You are surprisingly not. This is due to the decoupling of the official exchange rate and mortgage rates.
There is now a much wider spread of 266 basis points between the interest rate of the cheapest investment grade mortgage and that of a similar product from the big four banks. That, right there, is the potential for more than 10 rate cuts on what you’re currently paying, if you still have a mortgage with one of the major banks.
So just take matters into your own hands.
If you shifted a $500,000 loan from the undiscounted average of the Big Four rate of 4.51% to the most competitive loan with a true clearing account at just 1.85%, your repayments would drop a whopping $699 per month.
However, there is an even better interest rate savings opportunity. Adopt what I call a “strains, but still strains” strategy: switch your mortgage to a new provider with lower interest rates. but don’t change your monthly repayment amount.
By simply continuing to pay what you are already used to, you would reduce your overall interest bill on a $500,000 loan over its entire term by $250,000 from $334,601 to just $85,945.
As a major bonus, you’d be mortgage-free about eight years sooner – and it costs you absolutely nothing.
- The advice given in this article is of a general nature and is not intended to influence readers’ decisions regarding investments or financial products. They should always seek professional advice that takes their personal circumstances into account before making financial decisions.