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How to choose the right home loan

How to choose the right home loan

No two home buyers are the same, so there are a multitude of home loan options available on the market. But how do you narrow down the right home loan for your financial needs and budget?

Choosing the wrong home loan could cost you significantly in terms of interest charges, fees, lack of flexibility and more. It’s important you take the time to research and compare your options so you can avoid mortgage stress and apply for the best loan for your situation.

Questions to ask yourself as a borrower

Firstly, you’ll need to discover what kind of borrower you are, and which type of lender may suit you best.

There are a few key questions would-be borrowers can answer to help them in this journey:

  1. Will I live in the property or rent it out? There are different home loans and often different interest rates offered to owner-occupiers versus investors.
  2. How much can you afford to put down as a deposit? Standard deposit sizes may sit around 10-15% but lenders typically favour borrowers with deposits of 20% or more with more competitive interest rates and features. If you can only afford a deposit of 2-5%, there may be government assistance schemes available to you.
  3. Will I pay lender’s mortgage insurance (LMI)? LMI is a one-off cost that may be charged by lenders when your deposit size is below 20%, or your loan-to-value-ratio (LVR) is above 80%. Depending on the value of the property, this can climb into the tens of thousands of dollars range.
  4. Will I pay stamp duty? Stamp duty is an upfront payment that can cost borrowers tens of thousands of dollars as well. However, some states and territories may offer exemptions and concessions to first home buyers depending on the value of their property.

Understanding how much you need to save up, including stamp duty costs or LMI, can help you to boost your borrowing power when it comes time to make your application.

Consider using our RateCity Borrowing Power Calculator to help you discover how much you may be approved to borrow and spend on your first or next property.

Questions to ask when choosing a home loan

Once you’ve understood a little more about what kind of borrower you are, you’ll be better positioned to compare your home loan options.

There are a range of home loan factors that borrowers can compare to help them find the best option that suits their needs and budget.

  • Which home loan lender do I prefer?

A big bank may offer greater security, a wider range of products and better customer service, but a competitor lender, like an online bank or neobank, may offer lower rates and fees, as well as more innovation.

  • What is the interest rate?

Interest charges are one of the most significant costs associated with the home loan. The higher the interest rate, the higher the mortgage costs. However, higher rates (and fees) can be associated with home loans that offer more features compared to no-frills basic mortgages.

  • What is the comparison rate?

A comparison rate is an additional measurement designed to showcase a more ‘realistic’ cost of a home loan. The comparison rate factors in most of the fees charged as well, based on a 25-year $150,000 mortgage. While this loan size is considerably smaller than average home loans in capital cities, it can be a useful comparison tool in showcasing which mortgages have higher fees than others.

  • What fees may be charged?

Fees can also increase the ongoing costs of your home loan. This may include upfront fees, like application fees, ongoing fees, like annual fees, and exit fees.

  • What features, if any, are available?

Home loan features may be a competitive way to add flexibility to your home loan. This may include:

  • Making extra repayments without charge
  • An offset account
  • A redraw facility
  • Split repayments (between fixed and variable)

  • Is the home loan interest fixed or variable?

The type of interest rate you choose may also impact the cost of your home loan. Fixed interest rates involve locking in a home loan rate over a term of generally 1-5 years. This may be helpful for budgeting, as your repayments will stay the same throughout the fixed term. Further, if you suspect interest rates may rise soon, locking in your rate may protect you from fluctuations in the market.

Variable interest rates are subject to market fluctuation. If the Reserve Bank of Australia were to lift the cash rate, your bank may increase its rates as well, meaning your mortgage repayments would be higher. On the flip side, if interest rates were to drop, you’d also take advantage of instant mortgage repayment reductions.

  • Do I want to make principal and interest or interest only repayments?

You may also choose between paying both the principal (loan amount owing) and interest, or just making interest repayments with your home loan. Interest-only repayments are typically popular with investors looking to keep expenses low to increase their ROI.

But only repaying the interest doesn’t reduce your loan amount owing. If the interest-only period ends and reverts to principal and interest, the repayments may now be much higher than if the borrower repaid the principal to begin with.

  • How long do I want to make repayments?

A typical home loan term is 25-30 years, but some lenders may offer loan terms as high as 40 years. Generally speaking, the longer your loan term, the smaller your monthly mortgage repayments but more interest you’ll pay over the life of the loan. The shorter your loan term, the less interest you’ll pay but higher your monthly repayments may be.

How to compare home loans

Now you know what type of borrower you are, how much you may be approved to borrow and the type of home loan you want, it’s time to choose your home loan by comparing your options.

RateCity offers several comparison tools designed to help you narrow down the best home loan options for your financial situation and budget.

Comparison tables

Comparison tables allow borrowers to compare apples with apples, as you may filter down your options to suit your needs and view home loans side by side. This may help you to create a short list of options that offer an interest rate, fees and features that you are prioritising.

Mortgage Repayment Calculator

Use RateCity’s Mortgage Repayment Calculator to discover which home loan options from your short list may best suit your budget. By discovering your potential home loan repayments with each loan option, you may have a better idea of which home loan product works for your household.

Real Time Ratings™

RateCity’s world-first rating system ranks home loan products out of five stars, based on their cost and flexibility. Looking to the Real Time Rating™ score of a home loan option may be one way you can narrow down your shortlist and choose your best mortgage product.

  • If choosing a home loan feels like an overwhelming process and you’re after some expert advice, it may be worth speaking to a mortgage broker. These home loan experts can look at your finances and recommend some deals that could also suit your goals and budget.

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This article was reviewed by Personal Finance Editor Mark Bristow before it was published as part of RateCity's Fact Check process.

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