Rate cut set for this Thursday: what this means for your mortgage

Rate cut set for this Thursday: what this means for your mortgage

The RBA could potentially cut the cash rate as early as this Thursday, as the economic impact of the coronavirus pandemic continues to amplify.

RateCity.com.au analysis shows the average mortgage holder with a $400,000 loan could see their minimum monthly mortgage repayments reduce by up to $55 a month if there is a 0.25 per cent cut and their lender passes it on in full.

If the RBA goes one step further and drops the cash rate by 0.50 per cent, their minimum monthly repayments will decrease by $110.

Potential impact of a 0.25% cut on minimum monthly repayments

Loan size Current rate Potential new rate Difference - monthly Difference - annual
$400K 3.50% 3.25% -$55 -$664
$500K 3.50% 3.25% -$69 -$830
$750K 3.50% 3.25% -$104 -$1,245

Potential impact of a 0.50% cut on minimum monthly repayments

Loan size Current rate Potential new rate Difference - monthly Difference - annual
$400K 3.50% 3.00% -$110 -$1,317
$500K 3.50% 3.00% -$137 -$1,646
$750K 3.50% 3.00% -$206 -$2,470

Notes: based on someone paying principal and interest over 30 years. The current rate is based on the estimated RateCity.com.au average rate.

However, many customers are putting this money back into their mortgage, either by request or because their bank’s default position is to keep customers’ mortgage repayments the same.

What banks do with customers’ monthly repayments after a variable rate cut (default position)

  • CBA, NAB and ANZ: Do not automatically lower their variable rate customers’ monthly repayments, unless customers request otherwise.
  • Westpac: Adjusts variable rate customers’ monthly repayments once a year, unless requested otherwise or there is a rate hike. However, Westpac is changing to automatic monthly adjustments from now on.
  • Other lenders: Many smaller lenders automatically lower their variable customers’ monthly repayments when rates are cut including St George, ING, HSBC, Bank of Melbourne, BankSA and Macquarie Bank, unless customers request otherwise.

The most recent cutting cycle stretches back to 2011. Over this time the cash rate has fallen from 4.75 per cent in October 2011 to 0.50 per cent today in 16 cuts, including one double cut.

Mortgage holders who have kept their monthly repayments the same during this time are likely to be thousands of dollars ahead on their home loan.

RateCity.com.au research director Sally Tindall said: “Many Australians are already ahead on their mortgage because their bank has kept their monthly repayments the same when interest rates were cut.

“This is money some people can potentially access through their redraw, should they find themselves in a tight financial position,” she said.

“If interest rates are cut again, some mortgage holders may want to re-think what they do with the savings.

“In most cases, variable rate customers should be able to choose whether they pay the minimum or extra.

“Think about what’s best for your finances and, if needed, get some independent financial advice to put yourself in the best possible position in these unprecedented times,” she said.

Pros of keeping monthly repayments the same

  • Get ahead on your mortgage repayments and build a buffer.
  • Reduce interest charges by having a lower balance outstanding.
  • Potentially pay your home loan off sooner.

Pros of lowering monthly repayments to the minimum

  • Access to extra money to help pay bills and other debts (particularly debts with higher interest rates).
  • Access to extra money to spend in the economy.
  • Flexibility: you can still choose to have the money in an offset account (if you have one) to help reduce your interest.

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Learn more about home loans

What happens to my home loan when interest rates rise?

If you are on a variable rate home loan, every so often your rate will be subject to increases and decreases. Rate changes are determined by your lender, not the Reserve Bank of Australia, however often when the RBA changes the cash rate, a number of banks will follow suit, at least to some extent. You can use RateCity cash rate to check how the latest interest rate change affected your mortgage interest rate.

When your rate rises, you will be required to pay your bank more each month in mortgage repayments. Similarly, if your interest rate is cut, then your monthly repayments will decrease. Your lender will notify you of what your new repayments will be, although you can do the calculations yourself, and compare other home loan rates using our mortgage calculator.

There is no way of conclusively predicting when interest rates will go up or down on home loans so if you prefer a more stable approach consider opting for a fixed rate loan.

How do I calculate monthly mortgage repayments?

Work out your mortgage repayments using a home loan calculator that takes into account your deposit size, property value and interest rate. This is divided by the loan term you choose (for example, there are 360 months in a 30-year mortgage) to determine the monthly repayments over this time frame.

Over the course of your loan, your monthly repayment amount will be affected by changes to your interest rate, plus any circumstances where you opt to pay interest-only for a period of time, instead of principal and interest.

How much are repayments on a $250K mortgage?

The exact repayment amount for a $250,000 mortgage will be determined by several factors including your deposit size, interest rate and the type of loan. It is best to use a mortgage calculator to determine your actual repayment size.

For example, the monthly repayments on a $250,000 loan with a 5 per cent interest rate over 30 years will be $1342. For a loan of $300,000 on the same rate and loan term, the monthly repayments will be $1610 and for a $500,000 loan, the monthly repayments will be $2684.

What is the difference between fixed, variable and split rates?

Fixed rate

A fixed rate home loan is a loan where the interest rate is set for a certain amount of time, usually between one and 15 years. The advantage of a fixed rate is that you know exactly how much your repayments will be for the duration of the fixed term. There are some disadvantages to fixing that you need to be aware of. Some products won’t let you make extra repayments, or offer tools such as an offset account to help you reduce your interest, while others will charge a significant break fee if you decide to terminate the loan before the fixed period finishes.

Variable rate

A variable rate home loan is one where the interest rate can and will change over the course of your loan. The rate is determined by your lender, not the Reserve Bank of Australia, so while the cash rate might go down, your bank may decide not to follow suit, although they do broadly follow market conditions. One of the upsides of variable rates is that they are typically more flexible than their fixed rate counterparts which means that a lot of these products will let you make extra repayments and offer features such as offset accounts.

Split rates home loans

A split loan lets you fix a portion of your loan, and leave the remainder on a variable rate so you get a bet each way on fixed and variable rates. A split loan is a good option for someone who wants the peace of mind that regular repayments can provide but still wants to retain some of the additional features variable loans typically provide such as an offset account. Of course, with most things in life, split loans are still a trade-off. If the variable rate goes down, for example, the lower interest rates will only apply to the section that you didn’t fix.

How long should I have my mortgage for?

The standard length of a mortgage is between 25-30 years however they can be as long as 40 years and as few as one. There is a benefit to having a shorter mortgage as the faster you pay off the amount you owe, the less you’ll pay your bank in interest.

Of course, shorter mortgages will require higher monthly payments so plug the numbers into a mortgage calculator to find out how many years you can potentially shave off your budget.

For example monthly repayments on a $500,000 over 25 years with an interest rate of 5% are $2923. On the same loan with the same interest rate over 30 years repayments would be $2684 a month. At first blush, the 30 year mortgage sounds great with significantly lower monthly repayments but remember, stretching your loan out by an extra five years will see you hand over $89,396 in interest repayments to your bank.

What is a variable home loan?

A variable rate home loan is one where the interest rate can and will change over the course of your loan. The rate is determined by your lender, not the Reserve Bank of Australia, so while the cash rate might go down, your bank may decide not to follow suit, although they do broadly follow market conditions. One of the upsides of variable rates is that they are typically more flexible than their fixed rate counterparts which means that a lot of these products will let you make extra repayments and offer features such as offset accounts.

What is the difference between a fixed rate and variable rate?

A variable rate can fluctuate over the life of a loan as determined by your lender. While the rate is broadly reflective of market conditions, including the Reserve Bank’s cash rate, it is by no means the sole determining factor in your bank’s decision-making process.

A fixed rate is one which is set for a period of time, regardless of market fluctuations. Fixed rates can be as short as one year or as long as 15 years however after this time it will revert to a variable rate, unless you negotiate with your bank to enter into another fixed term agreement

Variable rates is that they are typically more flexible than their fixed rate counterparts which means that a lot of these products will let you make extra repayments and offer features such as offset accounts however fixed rates do offer customers a level of security by knowing exactly how much they need to set aside each month.

What is mortgage stress?

Mortgage stress is when you don’t have enough income to comfortably meet your monthly mortgage repayments and maintain your lifestyle. Many experts believe that mortgage stress starts when you are spending 30 per cent or more of your pre-tax income on mortgage repayments.

Mortgage stress can lead to people defaulting on their loans which can have serious long term repercussions.

The best way to avoid mortgage stress is to include at least a 2 – 3 per cent buffer in your estimated monthly repayments. If you could still make your monthly repayments comfortably at a rate of up to 8 or 9 per cent then you should be in good position to meet your obligations. If you think that a rate rise would leave you at a risk of defaulting on your loan, consider borrowing less money.

If you do find yourself in mortgage stress, talk to your bank about ways to potentially reduce your mortgage burden. Contacting a financial counsellor can also be a good idea. You can locate a free counselling service in your state by calling the national hotline: 1800 007 007 or visiting www.financialcounsellingaustralia.org.au.

Remaining loan term

The length of time it will take to pay off your current home loan, based on the currently-entered mortgage balance, monthly repayment and interest rate.

What is a standard variable rate (SVR)?

The standard variable rate (SVR) is the interest rate a lender applies to their standard home loan. It is a variable interest rate which is normally used as a benchmark from which they price their other variable rate home loan products.

A standard variable rate home loan typically includes most, if not all the features the lender has on offer, such as an offset account, but it often comes with a higher interest rate attached than their most ‘basic’ product on offer (usually referred to as their basic variable rate mortgage).

What is a comparison rate?

The comparison rate is a more inclusive way of comparing home loans that factors in not only on the interest rate but also the majority of upfront and ongoing charges that add to the total cost of a home loan.

The rate is calculated using an industry-wide formula based on a $150,000 loan over a 25-year period and includes things like revert rates after an introductory or fixed rate period, application fees and monthly account keeping fees.

In Australia, all lenders are required by law to publish the comparison rate alongside their advertised rate so people can compare products easily.

How much of the RBA rate cut do lenders pass on to borrowers?

When the Reserve Bank of Australia cuts its official cash rate, there is no guarantee lenders will then pass that cut on to lenders by way of lower interest rates. 

Sometimes lenders pass on the cut in full, sometimes they partially pass on the cut, sometimes they don’t at all. When they don’t, they often defend the decision by saying they need to balance the needs of their shareholders with the needs of their borrowers. 

As the attached graph shows, more recent cuts have seen less lenders passing on the full RBA interest rate cut; the average lender was more likely to pass on about two-thirds of the 25 basis points cut to its borrowers.  image002

Does Australia have no cost refinancing?

No Cost Refinancing is an option available in the US where the lender or broker covers your switching costs, such as appraisal fees and settlement costs. Unfortunately, no cost refinancing isn’t available in Australia.

Can I change jobs while I am applying for a home loan?

Whether you’re a new borrower or you’re refinancing your home loan, many lenders require you to be in a permanent job with the same employer for at least 6 months before applying for a home loan. Different lenders have different requirements. 

If your work situation changes for any reason while you’re applying for a mortgage, this could reduce your chances of successfully completing the process. Contacting the lender as soon as you know your employment situation is changing may allow you to work something out.