Loan Types
The type of loan that suits you best will depend on a range of factors
These are some factors you need to consider:
• Do you already have a home loan you are paying off?
• Your age … and are you married or single (or about to become married or single)?
• Are you borrowing in your own name, company, trust or superannuation fund? comparison software
PRINCIPLE AND INTEREST
This is the traditional “amortising loan” where each repayment includes a combination of interest and principle. Typically the repayments remain the same (subject to interest rates) over the full term of the loan. This means that in the early stages the vast majority of your repayment will be interest, and towards the end of the term most of the repayment will be principal. Commonly referred to as P&I loans, these are recommended for owner occupied homes so debt reduces over time in a structured set and forget format. If the loan amount is very high compared to the property value, lenders may make P&I repayments mandatory so the loan reduces to a more acceptable loan to value ratio, or LVR. Typically, P&I loans at variable rates still allow extra repayments and/or redraw if necessary.
INTEREST ONLY
Paying interest only off your home loan is an option that you may choose. The payments are less than if you were to pay principal and interest. As the term suggests, you only pay for the interest accrued on the amount borrowed. The principal balance of your home loan does not reduce during this period. The interest only period is usually between 1-10 years of a 30 year term home loan. After this period you have three options:
2. Start paying the nominated principal and interest
3. Refinance and start again – you can again choose the interest only option, or start paying principal and interest over a new 30 year term.
An interest only home loan is suitable if you are relying on a capital gain, or wanting to keep repayments as low as possible to allow for additional funds to go towards other expenses or investments. It’s a popular option for investors who also have a home loan in that they can direct all extra cash to paying off a non tax deductible debt before reducing their investment debt.
ne aspect of interest only loans that must be considered is that the longer a loan remains interest only, the higher the eventual P&I payments will be. This comes about because the overall term of the loan remains the same – typically 30 years, and therefore if the first 10 years is interest only, you will then need to reduce the debt to zero over the remaining 20 year term … thus the need for substantially higher repayments. We can easily calculate this effect so you can make an informed decision.
REDRAW
A redraw facility offers you the opportunity to redraw or take back any additional repayments you have made on your home loan. Be aware of ‘redraw fees’ and the minimum redraw amounts set by the lender. Many people take advantage of this facility by putting their savings into their home loan saving interest and helping to reduce their home loan.
ALL IN ONE
This type of home loan works as an account where all income is deposited and all expenses are taken out. If managed correctly it has the ability to reduce the principal owing on your home loan and therefore the interest charges. It also has the benefit of being a one-stop shop for all of your finances where your loan, cheque, and savings accounts are combined into one. These can be interest only (line of credit) or traditional principal and interest term home loans. It is important to check out fees such as ATM, cheque and eftpos.
OFFSET
An offset facility is similar to the ‘all in one’ account; however the home loan account and transaction account are separate, not combined. All income is deposited into the offset account and you can use the offset account for ATM, eftpos, cheque, and internet transactions or in some cases transfer money from the offset account into a transaction account when required. You are not paid interest on the money in the offset account, but the balance in the offset account is ‘offset’ against that owing on your home loan. Over time this can help you pay off your home loan sooner and build up equity.
There are two types of offset accounts – 100% offset and partial offset. An offset can be termed ‘partial’ in two ways. A partial offset may apply only after your account reaches a minimum balance or be at a reduced rate. As an example, if the principle owing on your home loan is $300,000 and you have $20,000 in your 100% offset account – the principal is reduced by the $20,000 offset to $280,000. Interest only accumulates on the $280,000. If your loan is “principle and interest”, repayments continue to be made on the entire $300,000 principle and applicable interest so you are in effect making extra payments – thus reducing the loan term. It is again important to check all fees and charges associated with an offset facility.