What kind of borrower are you?

 KNOWING yourself, your financial history, your values and habits is the first step to choosing a home loan that suits you.

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Home owners come in all types, from thriftily organised to haphazard and profligate. Knowing yourself, your financial history, your values and habits – and those of your partner – is the first step to choosing a home loan that suits you.

Think of a mortgage as a financial partner for the long term; it’s really important to choose the one that sets you up for success.

Finance expert Noel Whittaker suggests that if you already have a number of loans outstanding, it can be helpful to bring those debts together rather than trying to juggle payments and interest.

“Consider consolidating credit card debts and personal loans with the home loan – but for this to work you must stay away from future credit card debts and raise the repayments to avoid lengthening the time,” Whittaker says.

If you’re in the fortunate position where family members – parents, for example - are prepared to help you out, they can either gift money towards a deposit or go co-borrower on the loan.

The latter option means their home will be mortgaged as security, so be aware that if your property value plunges and you default, the lender will have a claim over their assets.

Whittaker advises parents against adding their names on the property title deed.

“That is a very bad strategy because the parents are still liable if things go wrong, and they could also face a hefty capital gains tax bill if they decide to transfer their share of the property to their children in the future,” he says.

Variable, fixed or mixed?

Decide whether you’re best off with a variable loan, a fixed interest loan or a mix of the two.

With a fixed rate, you know exactly what your interest and repayments are going to be well into the future and can budget accordingly. Interest rates are at an historic low and many have locked them in. The downside is that you are limited in your ability to make extra payments or pay out the loan early without financial penalties. You are protected from interest rate rises, but you also miss out the benefit of on any drop.

A variable rate will bob up and down with the market. You can’t predict how much future repayments and interest will cost, but it’s easy to pay down or pay off your mortgage if you have a windfall. You’ll benefit from interest rate drops, but pay more if the rate rises.

A variable rate loan also allows you to use an offset account in tandem with your mortgage. This is a great way to save interest. It uses the balance of your savings and transaction account to offset the remaining balance of your loan.

For example, if you have $10,000 in a savings account and you owe $100,000 on a variable rate loan, you will only pay interest on $90,000. Of course, you won’t earn interest from your savings account when it is in offset mode. You can also put part of your savings into offset mode while the rest stays in savings mode.

Some borrowers use a mortgage mix, taking out part of the amount with a variable loan and the other with a fixed rate. You can still use the offset function on your savings account to benefit the variable loan.

For more understanding of the various mortgage types, check out the tools available online, such as in Suncorp’s Home Buying Guide.

Noel Whittaker points out that, while Australia is at the bottom of the interest rate cycle and it might seem prudent to lock those in, you’re losing flexibility.

“If you need to sell your house, you’ll find yourself subject to exit fees (with a fixed rate loan),” he says. “With a variable rate loan and an offset account you are automatically hedging your interest rates.”

Whittaker suggests aiming to make monthly repayments of $12 per $1000. You should try to repay your loan in a reasonable time, with a minimum of interest and still have money to invest in other areas, he says.

Switching loans

The fundamentals of choosing a mortgage type apply whether this is your first home loan or you’re switching from one loan to another.

By hunting around and comparing loans you may be able to save thousands on your current mortgage or breathe easier with better conditions. The Australian Securities and Investments Commission offers checklists on its MoneySmart website.

The site also has a mortgage switching calculator. If you’re planning to make the switch, do your sums, look around and compare different options. Remember to factor in exit fees, break fees (on fixed rate loans), discharge fees and start-up fees.

Depending on the market, your home may have fallen in value. You will likely have to pay lender’s mortgage insurance if your equity is less than 80%. You could also be up for stamp duty.

Ask lenders to provide you with key facts sheets on their loans so you can compare the features. Many brokers offer comparison websites, but bear in mind that some sites may be promoting particular products and may not show all the options available.

It’s also worth letting your lender know that you’re considering switching. Some will offer to reduce your interest rate or alter conditions to better suit you.

When you’ve settled on a mortgage, there’s one more box to tick to keep things flowing smoothly. Organise a direct debit from your nominated account with all the approvals necessary to ensure that you don’t miss a payment. Set up the dates so that your repayments come out after payday. The reverse can cause major headaches and incur fees.

Always remember, there’s plenty of help available and your lender can run through options with you – but act while you still have room to manoeuvre.

Originally published as What kind of borrower are you?