Refinancing your home loan could help you to reduce the loan’s size and repayments. Many also go this route if they need to consolidate other loans into their home loan.
Beyond that, you can use refinancing to get access to better interest rates once you clear up any credit issues you had when taking out the original loan. Finally, some people refinance so they can use the equity they’ve built to pay for renovations or other major purchases.
All of this makes refinancing sound like a good idea. However, your circumstances will dictate whether it’s the right choice for you.
Before we look at the things you need to consider before refinancing, let’s examine the general process.
If you work with one of uno’s mortgage brokers, you will search for an appropriate loan and lodge your application. The broker will find the home loans that suit your needs and make the application on your behalf.
From there, the refinancing process generally mirrors the process you follow when taking out a new home loan. You’ll need to provide identification and proof of your earnings. Your lender may wish to revalue your home as part of the application process as well.
Assuming everything goes through, your lender will send a discharge form to the Land Titles Office in your state. This form closes your previous loan so you can set up the new one. The lender uses the new loan to pay your old one, with the remaining debt becoming your new home loan. You will then start making payments, usually less than a month after settlement.
What You Should Consider
Refinancing can help in a lot of situations, but there are still plenty of things you need to consider before going through with it.
Let’s look at five key questions you need to answer before refinancing.
Question #1 – Will I Get a Better Deal?
It’s possible that the refinanced mortgage will have you paying more, especially if you haven’t built much equity in your home.
Beyond that, there are several ongoing costs and one-off fees involved in refinancing. Factor these into your decision, otherwise, they may sneak up on you.
Question #2 – What Do I Want to Achieve?
There’s little point in refinancing if you don’t know what you want from the transaction. You may want a loan with a lower interest rate, or one with additional features. Alternatively, you might be unhappy with the service you receive from your current lender.
All of these are valid reasons for refinancing. Just make sure you know what you want out of the process.
Question #3 – Is the Timing Right?
Timing may be a factor in your decision to refinance. Generally, you should look to refinance when you’re coming towards the end of a fixed rate term. This gives you the chance to secure a better-fixed rate or to find a more flexible home loan.
You may also consider refinancing if you’re on a variable rate loan. In these cases, you should wait for about three years before looking at your options.
Question #4 – Which Lender Do I Choose?
Every lender offers different home loan products, each of which comes with its own features and interest rates. You also need to consider the level of service you will receive. For example, some prefer to refinance with a lender that provides branch access because they’re uncomfortable handling their finances online or over the phone.
In some cases, you won’t need to change lenders at all. Your current lender may offer you a better deal on a new home loan, which could work out if you’re happy with the service you’ve received thus far.
Mortgage brokers come to the fore in this situation. They can help you to sift through the refinancing options available from several lenders to get you the best deal possible.
Question #5 – What Does My Credit File Say?
Your credit file may thwart your attempts to refinance, especially if you’ve struggled to pay your debts in recent months. Failed payments can add black marks to your credit file, which will lead to many lenders refusing your application.
It gets worse, as each refusal creates another black mark on your credit file. Some specialist lenders can help in this situation, but it’s often best to clear your credit file before attempting to refinance.
The Costs of Refinancing
In many cases, the upfront costs you absorb for refinancing are lower than the thousands of dollars you’d spend on interest on your old home loan. Even so, you must understand the following costs.
- Application fee – The lender will charge this fee when you apply for refinancing.
- Borrowing fees – This blanket term covers several upfront fees a lender may charge for refinancing.
- Break costs – Those with fixed rate mortgages may have to pay break costs to exit their loans early. The amount depends on the bank, and may vary from a fixed fee to a percentage of the remaining loan.
- Valuation fee – Many lenders prefer to revalue a home upon refinancing, which carries a fee.
- Settlement and Discharge fees – Much like break costs, lenders charge these fees to release you from your current home loan. The discharge fee usually costs between $150 and $300.
- Government fees – Several government fees may apply to your loan. You will also need to register the new mortgage with the Land Titles Office in your state.
- Lender’s Mortgage Insurance (LMI) – This one-time fee applies if you try to borrow more than 80% of your home’s value as part of refinancing. It protects the lender in case you default on the loan.
- Ongoing fees – Many home loans come with ongoing fees that you need to keep in mind. These may include annual fees, account keeping fees, and redrawing fees. Every loan is different, so read the fine print to know what ongoing costs come attached to your new loan.
You may not have to pay all of these fees, especially if your mortgage broker can negotiate a good deal.
Should You Refinance?
You need to meet a few criteria before you can refinance. In ideal circumstances, you will owe less than 80% of the value of your home and be on a variable rate loan. In fact, some people on variable loans refinance within three to six months of taking out the loan. In many cases, they do so to take advantage of an investment opportunity, but not all lenders will allow it.
If you’re on a fixed rate loan, you will need to absorb some break costs and exit fees, unless you’re approaching the end of the fixed rate term. A mortgage broker can advise on whether this suits your personal circumstances.
Finally, you should look into refinancing if you took out your home loan when you had a bad credit rating. Assuming you’ve cleared up your credit file, you can probably access better interest rates through refinancing away from your current loan.
A Word on Low Doc Mortgages
Self-employed people face a few added complications when they look to refinance. This is especially the case if they’re nearing the end of the tax year and can’t provide full tax returns to prove their income.
Even so, you could still access a low doc home loan of up to 85% of the value of the property with some specialist lenders. You may need to get a letter stating your projected income from your accountant. Plus, such loans tend to come with a lot of conditions.
What if you had a low doc mortgage, but now have the evidence needed to prove your income? You can use this evidence to refinance to a full doc home loan, which usually offers you a better interest rate.
Some Other Things to Keep in Mind
The above are the main issues to consider before refinancing, but there are some other things to keep in mind.
For one, you may need to pay LMI several times. For example, you may have paid it when taking out your initial home loan, if the loan was for more than 80% of the property. If you refinance before you’ve cleared 20% of the existing loan, you may have to pay LMI again.
For example, you may have taken out a loan of $450,000 on a $500,000 home. This equates to 90% of the home’s value, so you paid LMI of roughly $10,000. Two years later, your home is now worth $520,000, so you decide to refinance to get a better rate. However, you may not have cleared the 80% barrier before doing this, which would mean another LMI payment of $10,000 upon refinancing.
It’s also worth looking into the level of service your new lender provides. A good interest rate means little if nobody answers the phone, or you don’t have access to online banking.
Finally, remember that every refinancing application you make adds an enquiry to your credit score. Making too many applications in a short period will make many lenders wary of lending money to you.
The Case for Refinancing
With so many lenders on the market, it’s possible that you will miss out on some great deals if you don’t consider refinancing. Whether you choose to go ahead will depend largely on your personal circumstances.
We’ve looked at some of the things to consider when refinancing. Now, let’s examine some of the reasons why you might do it in some more detail.
Reason #1 – Taking Advantage of Promotions
Many lenders offer promotions with the intention of drawing borrowers away from their competitors. Usually, these promotions come in one of two forms.
Cashbacks and Rebates: Many lenders offer cash that goes straight into your pocket in return for refinancing with them. This can be tempting as a short-term windfall, but you need to remember that terms and conditions will apply to the new home loan. In some cases, these rebates take the form of waived fees or similar offers.
Honeymoon Rates: A honeymoon rate is a special interest rate the lender offers for a limited period at the beginning of a loan. Usually, this rate lasts for between one and three years, after which the loan reverts to the standard rate. Make sure you understand that the rate you see right now may not apply in a few years’ time.
Your current lender may also offer special deals, especially if they know you want to refinance. That’s because it costs the lender a lot less to keep you on board than it does for them to find a new client to replace you.
As always, speak to your uno mortgage broker to gain access to a wide number of promotions.
Reason #2 – Consolidating Debt
Consolidating your debt into your mortgage can help you to keep track of payments, ensuring you don’t fall behind and damage your credit file.
Refinancing to consolidate debt allows you to roll your debts into one. Furthermore, you can take advantage of the lower interest rate that usually comes with a home loan. On top of that, consolidation helps you avoid the late fees that many private creditors charge for missed payments. You’ll also find that you pay a smaller monthly sum for each of these individual debts because they’re now all rolled into one.
How much you can borrow to consolidate debt will depend on your situation:
- 90% of the home’s value – You’ll need to be on record as making on-time payments of your current debts. Beyond that, you need a clean credit file.
- 80% of the home’s value – You may have missed some payments in the past, but your records show you’ve met every obligation for at least six months.
- 75% or less of the home’s value – Your credit file shows that you have been inconsistent with repayments on your current debts.
Reason #3 – Accessing Equity
You home is a valuable asset in which you build equity over time. As such, refinancing allows you to access that equity so you can invest it. Alternatively, refinancing for equity gives you access to cash in emergency situations.
For example, let’s say you have a $500,000 home, for which $200,000 remains on the home loan. That means your equity is $300,000.
Most lenders let you borrow 80%, minus the debt that you have left to pay. In our above example, this would give you access to $200,000 in equity. Other lenders offer 90%, though you’ll have to pay LMI. Happily, many lenders will allow you to capitalise LMI, which means they place it on top of the new loan. Thus, you avoid the upfront fee.
The amount of equity you gain access to will also depend on the valuation your new lender applies. You may find the lender values the house at a lower level than you think it’s worth, which means you receive less money. Furthermore, many lenders place restrictions on equity home loans because they carry more risk.
Reason #4 – Renovations
Refinancing for renovations requires you to choose between two types of loan:
- Line of Credit – This essentially allows you to charge your renovations to the loan, much like you would use a credit card. This speeds things up, but it increases the risk of defaulting on your home loan.
- Construction Loan – This covers you if you want to demolish and rebuild your home. You may also choose this type of loan when extending your home.
Reason #5 – Your Mortgage is in Arrears
Your personal circumstances may have prevented you from meeting your financial obligations. Medical expenses or a death in the family could lead to you entering into arrears on your loan.
You can refinance to pull yourself out of arrears. This usually requires the help of a specialist lender that will ideally look beyond your credit file when examining your application.
This option pulls you out of arrears, but leaves you with a higher interest rate. However, you can later transfer to another lender once you’ve cleared your credit file. Of course, you need to offer adequate proof of income, and keep up with your loan payments to do this.
Reason #6 – Moving Away From a Bad Credit Mortgage
People with bad credit records often look to specialist lenders to secure a mortgage. These lenders don’t look at your credit file, but you will often find yourself paying much higher interest rates.
As such, getting away from a bad credit mortgage is a popular reason for refinancing. Still, you will need to meet several criteria to access a standard home loan from most lenders:
- Pay all your defaults to the point they’re no longer on your credit file. This can take up to five years;
- Owe no more than 80% of your current home loan;
- Have made all your debt repayments for at least six months;
- Provide evidence of your income in the form of payslips and bank statements.
Some specialist lenders will bend these criteria on a case-by-case basis. One of our mortgage brokers could assist you in this department.
Reason #7 – Accessing Tax Benefits
This is where things get more complex. You may refinance your home to access the equity, which you then invest elsewhere. For example, you could put the money into stock, or invest it into more property. This offers you access to the tax benefits that come with depreciation and negative gearing.
For example, you may refinance to fund a $40,000 extension on your property. You can then claim back the depreciation on the renovation cost for the duration of the loan.
We recommend speaking to a tax professional before choosing this option, as this only covers the basics of the concept.
Reason #8 – Getting a New Mortgage Package
This is one of the most common reasons why people choose to refinance. Many of you will have chosen basic home loan products upon buying your house. These tend to come with low interest rates that allow you to pay off the loan’s principal as quickly as possible. Basic packages also offer simplicity, and tend not to come with the many fees that lenders attach to more complex home loans.
This is all great, but it also opens up opportunities to do more. For example, as you get further into your basic loan, you may have saved a lot of money. This opens the door to refinancing for an offset mortgage, which could lead to you paying your home loan off quicker.
Many lenders offer similar professional packages that you can benefit from after several years of paying a basic home loan. Again, a uno home loan consultant can help you find out more.
Reason #9 – Accessing Extras
Let’s come back to the basic home loan for a moment. Such loans tend to have no frills attached, which means you miss out on a lot of extras that might help you. Refinancing often provides access to these extras, which can include any or all of the following:
- Additional Repayments – This lets you make extra loan payments without incurring a cost. Some lenders will place limits on the additional payments you can make;
- Redraw Facilities – You can draw back any of your additional repayments if needed. For example, you could use a redraw facility to pull a few hundred dollars from your mortgage in an emergency situation;
- Repayment Holidays – This feature accounts for changing personal circumstances. For example, you could go on a repayment holiday if you enter maternity leave, or change jobs;
- Reduced Payments – These work the same as repayment holidays, except you pay a reduced amount, rather than nothing at all, for the agreed period;
- Offset Account – You can use your savings to offset the principal of the loan. This means you pay less interest over time, and can get your loan paid off faster;
- Portability – This covers you if you choose to move home with debt still outstanding. It allows you to transfer the loan to the new property with the same lender;
- Flexible Rates – Some lenders will allow you to structure your home loan so you can choose between paying a fixed or variable rate as it suits you.
Not all refinancing deals come with these extras, so be sure to speak to one of our mortgage brokers to find out if you can access them.
What to do next
That covers practically everything you need to know about refinancing your home loan. Now, it’s time to take the next steps:
This information is general in nature and you should always seek professional advice when making financial decisions.