Keeping your biggest ongoing expense affordable is crucial for a happy household budget, regardless of whether home loan interest rates are on the rise or not. Luckily, there are a multitude of tried and tested tricks that homeowners and first home buyers can use to ensure they avoid mortgage stress.
Mortgage stress is colloquially understood to be when your mortgage repayments exceed more than 30% of your pre-tax income.
It’s not uncommon for a home loan lender to increase and decrease interest rates over a 20-30 loan term. However, that assurance doesn’t make the impact of higher repayments any easier for your budget – especially if the Reserve Bank of Australia (RBA) hikes the cash rate unexpectedly and your interest rate rises. Plus, with property market values, and therefore mortgage amounts, at record highs, there is risk that you could fall into mortgage stress if you do not prioritise keeping your repayments affordable. Especially in more expensive capital cities, such as Sydney or Melbourne.
Luckily, there are several options available to homeowners to help reduce their home loan repayments – some of which are much more involved than other tips but may yield greater loan reductions over time. The good news is that, depending on your home loan and your lender, you may already have access to helpful features that work to reduce your mortgage payments.
For first home buyers as well, it’s important to consider how you can future-proof your home loan. You’ll want to keep in mind factors like rates, fees and features, that could help to keep your repayments affordable – before you sign on the dotted line.
So, let’s dive into how homeowners can reduce their home loan repayments, and what options first home buyers have to choose a mortgage that keeps them out of mortgage stress.
3 ways homeowners can reduce home loan repayments
Now you understand a little more about mortgage stress, let’s explore key ways homeowners still repaying their mortgage can reduce their loan repayments.
1. Make additional repayments
If your home loan allows you to make extra repayments without penalty, it may be worth adjusting your budget to do so. Any extra cash you can use to chip away at your loan principal could go a long way in reducing your repayments, the amount of interest you pay over the life of the loan, and the loan term itself. Even an extra $50 a week towards your home loan could make a serious dent in your debt over time.
2. Use your offset account
Interest charges are one of the biggest ongoing costs associated with a home loan. However, if you have an offset account, it could be worth utilising this, as any payments you make into it work to reduce the interest charged on your mortgage. For example, on a $650,000 home loan with $70,000 in the offset account, the lender would calculate your payments as if your balance was only $580,000. And unlike making extra repayments, if the need were to arise – such as paying for home renovations – and you wanted to access these funds, you can do so.
3. Refinance, but keep the same repayments
If you do not have the room in your budget to make extra payments into your mortgage, it could be worth considering refinancing to a lower rate, but maintaining the same loan repayments.
If you have been paying off your home loan for some time, it’s likely that you’ve built up enough equity that you could consider refinancing to a more competitive home loan. This could mean one that charges a lower rate, fewer fees, or offers helpful features, like an offset account or redraw facility. When you switch to a lower rate home loan, your repayments should decrease in tandem. For example, Reduce Home Loans offers eligible refiners a competitive rate of 3.58% with our Economizer Variable 80 Home Loan.
However, with this strategy, when you refinance you’ll opt to make the roughly same repayments that you were making with your original loan. This is because you already know your budget can handle this higher repayment, and you’ll be paying extra into your mortgage without lifting a finger.
3 ways first home buyers can avoid mortgage stress
First home buyers are at risk of entering into their home loan already in mortgage stress, especially if they’re stretching their budget to the brink of affordability to get a foot on the property ladder. But unlike existing homeowners, they cannot simply refinance to a lower rate to avoid mortgage stress.
Instead, first home buyers may want to consider being proactive in their home loan choice before they ever submit an application, to best avoid mortgage stress. These are key factors first home buyers must consider before applying for a home loan to avoid mortgage stress:
1. Look outside your childhood bank
It’s not uncommon for first home buyers to apply for a loan with their childhood bank out of a perception of ‘loyalty’. However, there is no guarantee your childhood bank will approve you for a home loan full stop, let alone a low rate. This is one of many reasons it’s crucial that you compare a range of options before you apply for a home loan.
By starting with a competitive home loan, whether that means a low rate, low fees or generous features, you may start your home loan journey in a better position to avoid mortgage stress. After all, if interest rates do rise and you’re already at a competitive interest rate, you’re less likely to feel the sting than if you started on a higher rate from a bank you defaulted to without comparing your options.
2. Consider helpful features
On the flip side, lower interest rates and fewer fees for first home buyers are generally found with no-frills, more basic home loan options. However, some first home buyers may want to consider the benefits of a more flexible home loan that charges a higher rate, but offers competitive features, like the ability to make extra repayments, or an offset account.
By ensuring your mortgage comes with features that work to reduce your home loan repayments, you could set yourself up for success before, and after, interest rates rise – as they’re likely to do over the life of your loan. Consider weighing up the pros and cons of a low-rate, no-frills home loan versus one with a potentially higher rate but features you can use to reduce your repayments.
3. Save a bigger deposit, if possible
While this step may not apply to every first home buyer, or be realistic for your budget, it’s worth keeping in mind that the greater your deposit, the more likely you will be to nab a competitive home loan. Having a competitive home loan could ensure your home loan repayments are more affordable from the get go, allowing you to better avoid mortgage stress.
This is because being able to budget and save a larger deposit showcases a greater level of financial discipline, income security and responsibility, than if you save a smaller deposit of, say, 5%. Lender’s tend to reserve their lower rate, lower fee, or feature-heavy home loan offerings for borrowers with loan-to-value ratios of 80% or less (meaning, a deposit of 20% or more).
While you may be able to get a home loan with a smaller deposit, the downside could be that you are excluded from a lender’s more competitive offerings. While you are still in the home loan comparison stage of the buying journey, it could be worth looking at your budget and determining if you can wait a little longer, or save a bigger portion of your household income, to ensure a larger deposit.
What really is mortgage stress?
When a home loan customer spends more than 30% of their pre-tax income on their repayments, this is commonly referred to as being in ‘mortgage stress’.
However, high income households generally have a greater capacity to afford mortgage repayments that are 30% of their income. This is why the Australian Bureau of Statistics instead defines housing stress as when households, whose ‘equivalised disposable income’ is in the bottom 40% of Australia’s income distribution, spend more than 30% of their gross income on housing costs.
That doesn’t mean that homeowners on higher incomes shouldn’t prioritise avoiding paying too much in home loan repayments. Instead, we use the colloquial definition of mortgage stress as the standard, as it’s a good rule of thumb for all homeowners to consider to avoid financial stress.
Further, the average mortgage size around Australia is increasing, arguably much faster than the average income/wage growth. This means that in the current environment, it may be inevitable that some home buyers start their mortgage repayments paying close to, or more than, 30% of their income, just to get a foot on the property ladder.
That being said, it’s still not an ideal position to find yourself in as a homeowner. The best way to avoid mortgage stress is to use strategies to reduce your monthly repayments, and choose the best home loan for your financial situation to begin with. And you don’t have to go through it alone, as competitive providers, like Reduce Home Loans, offer record-breaking mortgages designed to help customers keep repayments affordable.
Keep in mind that if you are seriously struggling to meet your mortgage repayments, it could be worth seeking financial advice or speaking to a financial counsellor. Reach out to your home loan provider before you miss a repayment, as they should have financial hardship support in place for customers, like a repayment holiday or switching to interest-only repayments.
For more information on how Reduce Home Loans could help you lower your mortgage repayments, please don’t hesitate to contact us today.
Any statements are general in nature and do not take into account your financial personal situation, objectives or needs. You should consider whether any statement/s is suitable for you and your personal circumstances. Before making any financial decision, consider your circumstances and the product disclosure statement.