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Don't trip: Beware the home loan borrowing trap

Don't trip Beware the home loan borrowing trap

RateCity warns home owners and those in the market for a home loan how to take advantage of the recent announcement from the Reserve Bank without falling into the trap of over-borrowing.

July 14, 2010

Many Australians are feeling a little more relieved following the recent Reserve Bank of Australia (RBA) announcement that for the second month in a row the cash rate would remain at 4.5 percent.
RateCity’s CEO, Damian Smith said home owners should try and use this time to pay down home loan debts if possible, while the cash rate is on hold.

“The average borrower [with a $300,000 mortgage] has seen their monthly repayments go up by around $300 since September last year, so the last couple of months are welcome relief,” Smith said.

Smith said borrowers need to be more careful with taking on too much debt during the rate relief.

“There is always a danger that when interest rates fall or are on hold, consumers become over-confident and over-borrow,” Smith said.

“If interest rates start to rise again and your loan is a variable rate, your repayments will increase, leaving you less money for other expenses such as bills, groceries, travel and entertainment. Over-borrowing can be very damaging to your financial situation,” he said.

“While we are facing uncertain economic times as a result of the European debt crisis, Australians need to be careful of over-borrowing on home loans and take advantage of the hold in the cash rate and try to reduce their debts.”

How to avoid over-borrowing on your mortgage
If you are a first home buyer shopping for a home loan or you are considering transferring your current home loan, here are some tips to avoid over-borrowing on your mortgage:

  • How much to borrow: As a general rule of thumb,make sure your repayments are under 30 percent of your total income and that you leave a buffer of at least 2 percent in case interest rates rise. Be strict and disciplined on what you can afford especially when negotiating on property prices or at auctions.
  • The right home loan: Take the time to compare home loans online to be able to determine what features you will need and what other lenders offer.
  • Save a deposit: You should try to save a deposit of 20 percent of the value of the property you want to purchase. This can help you save on lenders mortgage insurance and may also open up more doors on mortgage choices so you can find a better deal.
  • Additional repayments: By opening an offset account or adding to your repayments you can save on interest, reduce your loan size and the term. For example, for a $300,000 mortgage with a projected average interest rate of 7 percent, by adding just $400 per month to your repayments or to your offset account, you could potentially save over $122,000 and cut eight years off your 25-year term.

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