Time may be up for homeowners on mortgage holidays

Time may be up for homeowners on mortgage holidays

Tens of thousands of Australian homeowners who have paused their mortgage repayments due to COVID-19 are facing a major financial decision today.

By the end of September, 80,000 mortgage deferrers would have been contacted by their banks about whether they are able to restart repayments again, according to the Australian Banking Association (ABA). 

Some who are financially distressed may request to extend their deferral by another four months.

In most cases, banks will offer homeowners who have taken a ‘mortgage holiday’ four options:

  1. Resume full repayments.
  2. Switch to interest-only or part payments.
  3. Defer for an extra 4 months (will need to prove to the bank they are still in difficulty).
  4. Sell the property.

Australians have put about 393,000 home loans, worth $160 billion, on ice, which accounts for 9 per cent of all mortgages in the country, the latest data from the Australian Prudential Regulation Authority (APRA) showed.

Total value of home loans deferred $160 billion
Total home loans August $1.8 trillion
% of home loans on a deferral 9.0%
Number of loan facilities deferred 393,467

Source: APRA (August 2020 statistics).

In line with these figures, 8 per cent of households have paused their home loans, a RateCity survey of 1,011 mortgage holders found.

Nearly three quarters of people on deferrals say they will be able to meet their repayments when it ends, while 28 per cent either won’t be able to or do not know if they will be able to.

For those who are not in a position to resume repayments, distressed homeowners are thinking about how they can keep their head above water. Some people are considering multiple options, including:

  • Requesting their bank for an extension – 67 per cent
  • Using money from their offset or redraw to make repayments – 29 per cent
  • Switching to interest only repayments – 25 per cent
  • Selling their homes – 25 per cent
  • Borrowing money from family – 17 per cent
  • Renting out their home and living somewhere cheaper – 8 per cent.

What to consider when ending a mortgage deferral

About 20 per cent of mortgage deferrers started making full (10 per cent) or partial (9 per cent) repayments by the end of August, according to APRA.

Some Australians wrapping up their mortgage holiday may need to decide whether they can make extra repayments to catch up on the six months of unpaid repayments, or potentially extend their loan term, but face a higher overall interest bill.

If an average homeowner decides to maintain their current loan term, they may pay an extra $58 a month in repayments, and pay an extra $5,262 over the life of their loan as a result of the six-month deferral, RateCity analysis found.

The calculations assume an average mortgage holder is

  • an owner-occupier paying principal and interest
  • five years into a 30-year loans
  • has a loan balance of $400,000 when they begin the deferral
  • on the Reserve Bank of Australia’s (RBA) average rate of 3.22 per cent.

For a homeowner who wants to keep their monthly repayments the same, they will likely need to pay the loan off over a longer period. An average mortgage borrower could take an extra 14 months to pay off their home loan, with the six-month pause potentially setting them back $14,554 over the life of the loan.

RateCity.com.au research director Sally Tindall warned homeowners about the potential costs of dragging out their mortgage terms.

“For households coming off a six-month deferral, be aware that if you extend your loan term, it’ll cost you thousands of dollars more over the life of your loan,” she said.

“Consider making extra repayments to help catch up on your home loan, if your financial situation improves in the future. This will help you pay off your loan faster.”

What to consider when extending a mortgage deferral

Homeowners under financial pressure may be forced to continue holding off their repayments by another four months.

The average borrower stretching out their mortgage holidays to 10 months could potentially be set back another $8,832 over the life of the loan, and their repayments may be bumped up by $97 a month when they come off the deferral, RateCity analysis found.

Deferrers who choose to extend their mortgage term may potentially see their overall interest soar by estimated $24,621 over the life of the loan, though their regular repayments may not change.

The benefits of a rate cut

Alternatively, if the average mortgage holder secures the new customer rate when their deferral ends, their repayments may see a monthly reduction of $54, even if their loan term remained the same. Getting on the new customer rate means they are likely to be more than $27,000 better off over the loan than if they had not paused their repayments at all.

Ms Tindall said a rate cut could be a godsend for many families doing it tough.

“A rate cut will instantly help people who aren’t in a position to pay their home loans right now, as less interest will be added each month by the bank,” she said.

“It may mean the difference between keeping your family home or being forced to sell up to survive.”

When the time comes for banks to call and discuss potential options, Ms Tindall advised struggling mortgage holders to ask their banks for the interest rate offered to new customers

“Even if you’re in a position to start making repayments again, don’t be afraid to negotiate with your bank to get a better deal." 

Tips for people extending their mortgage deferral

  1. Ask for a rate cut. Your mortgage repayments might be on hold, but the interest is still accumulating in the background. The lower your rate, the less long-term damage may be done.
  2. Seek financial advice to talk over your options. Some people may have to sell their homes.
  3. Consider switching to interest-only so you are at least paying something. Your bank might try and charge you a higher rate as a result. Tell them to cut your rate, not hike it. The banks have said they are here to help. Hold them to it.

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Learn more about home loans

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 are the pros and cons of no-deposit home loans?

It’s no longer possible to get a no-deposit home loan in Australia. In some circumstances, you might be able to take out a mortgage with a 5 per cent deposit – but before you do so, it’s important to weigh up the pros and cons.

The big advantage of borrowing 95 per cent (also known as a 95 per cent home loan) is that you get to buy your property sooner. That may be particularly important if you plan to purchase in a rising market, where prices are increasing faster than you can accumulate savings.

But 95 per cent home loans also have disadvantages. First, the 95 per cent home loan market is relatively small, so you’ll have fewer options to choose from. Second, you’ll probably have to pay LMI (lender’s mortgage insurance). Third, you’ll probably be charged a higher interest rate. Fourth, the more you borrow, the more you’ll ultimately have to pay in interest. Fifth, if your property declines in value, your mortgage might end up being worth more than your home.

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.

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.

Will I have to pay lenders' mortgage insurance twice if I refinance?

If your deposit was less than 20 per cent of your property’s value when you took out your original loan, you may have paid lenders’ mortgage insurance (LMI) to cover the lender against the risk that you may default on your repayments. 

If you refinance to a new home loan, but still don’t have enough deposit and/or equity to provide 20 per cent security, you’ll need to pay for the lender’s LMI a second time. This could potentially add thousands or tens of thousands of dollars in upfront costs to your mortgage, so it’s important to consider whether the financial benefits of refinancing may be worth these costs.

What percentage of income should my mortgage repayments be?

As a general rule, mortgage repayments should be less than 30 per cent of your pre-tax income to avoid falling into mortgage stress. When mortgage repayments exceed this amount it becomes hard to budget for other living expenses and your lifestyle quality may be diminished.

What is an interest-only loan? How do I work out interest-only loan repayments?

An ‘interest-only’ loan is a loan where the borrower is only required to pay back the interest on the loan. Typically, banks will only let lenders do this for a fixed period of time – often five years – however some lenders will be happy to extend this.

Interest-only loans are popular with investors who aren’t keen on putting a lot of capital into their investment property. It is also a handy feature for people who need to reduce their mortgage repayments for a short period of time while they are travelling overseas, or taking time off to look after a new family member, for example.

While moving on to interest-only will make your monthly repayments cheaper, ultimately, you will end up paying your bank thousands of dollars extra in interest to make up for the time where you weren’t paying off the principal.

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.

How much debt is too much?

A home loan is considered to be too large when the monthly repayments exceed 30 per cent of your pre-tax income. Anything over this threshold is officially known as ‘mortgage stress’ – and for good reason – it can seriously affect your lifestyle and your actual stress levels.

The best way to avoid mortgage stress is by factoring in a sizeable buffer of at least 2 – 3 per cent. If this then tips you over into the mortgage stress category, then it’s likely you’re taking on too much debt.

If you’re wondering if this kind of buffer is really necessary, consider this: historically, the average interest rate is around 7 per cent, so the chances of your 30 year loan spending half of its time above this rate is entirely plausible – and that’s before you’ve even factored in any of life’s emergencies such as the loss of one income or the arrival of a new family member.

How can I calculate interest on my home loan?

You can calculate the total interest you will pay over the life of your loan by using a mortgage calculator. The calculator will estimate your repayments based on the amount you want to borrow, the interest rate, the length of your loan, whether you are an owner-occupier or an investor and whether you plan to pay ‘principal and interest’ or ‘interest-only’.

If you are buying a new home, the calculator will also help you work out how much you’ll need to pay in stamp duty and other related costs.

Which mortgage is the best for me?

The best mortgage to suit your needs will vary depending on your individual circumstances. If you want to be mortgage free as soon as possible, consider taking out a mortgage with a shorter term, such as 25 years as opposed to 30 years, and make the highest possible mortgage repayments. You might also want to consider a loan with an offset facility to help reduce costs. Investors, on the other hand, might have different objectives so the choice of loan will differ.

Whether you decide on a fixed or variable interest rate will depend on your own preference for stability in repayment amounts, and flexibility when it comes to features.

If you do not have a deposit or will not be in a financial position to make large repayments right away you may wish to consider asking a parent to be a guarantor or looking at interest only loans. Again, which one of these options suits you best is reliant on many factors and you should seek professional advice if you are unsure which mortgage will suit you best.

How can I pay off my home loan faster?

The quickest way to pay off your home loan is to make regular extra contributions in addition to your monthly repayments to pay down the principal as fast as possible. This in turn reduces the amount of interest paid overall and shortens the length of the loan.

Another option may be to increase the frequency of your payments to fortnightly or weekly, rather than monthly, which may then reduce the amount of interest you are charged, depending on how your lender calculates repayments.

What are the responsibilities of a mortgage broker?

Mortgage brokers act as the go-between for borrowers looking for a home loan and the lenders offering the loan. They offer personalised advice to help borrowers choose the right home loan for their needs.

In Australia, mortgage brokers are required by law to carry an Australian Credit License (ACL) if they offer credit assistance services. Which is the legal term for guidance regarding the different kinds of credit offered by lenders, including home loan mortgages. They may not need this license if they are working for an aggregator, for instance, as a franchisee. In both these situations, they need to comply with the regulations laid down by the Australian Securities and Investments Commission (ASIC).

These regulations, which are stipulated by Australian legislation, require mortgage brokers to comply with what are called “responsible lending” and “best interest” obligations. Responsible lending obligations mean brokers have to suggest “suitable” home loans. This means loans that you can easily qualify for,  actually meet your needs, and don’t prove unnecessarily challenging for you.

Starting 1 January 2021, mortgage brokers must comply with best interest obligations in addition to responsible lending obligations. These require mortgage brokers to act in the best interest of their customers and also requires them to prioritise their customers’ interests over their own. For instance, a mortgage broker may not recommend a lender who gives them a commission if that lender’s home loan offer does not benefit that particular customer.