Many people use their home equity or extra payments on their loan to finance a renovation or buy a big ticket item.
Home loans offer a lower rate of interest and sometimes smaller monthly instalments with a longer timeframe to pay off the total loan, when compared to a personal loan. But even if a home loan offers a lower rate of interest, some may be surprised how much interest they pay over the 20 or 30 year period you hold a home loan.
Consider the following factors before you decide on the better option for you:
The interest rate
All other things being equal, the amount of interest you pay on your loan is the main factor people often consider when choosing a loan. Generally speaking, home loans offer lower interest rates than personal loans. It’s worth doing some calculations about how much additional interest you’ll pay over the longer term though if you choose to redraw from a home loan, given the longer timeframe of the loan.
How much you can afford to repay each month
Home loans have a longer life than personal loans, which means you may have a bit less to repay each month. However, don't forget to calculate the long-term impact of the extra interest payment over the years.
How long you wish to be in debt
While it’s important to look at the home loan vs personal loan interest rates, another factor to consider is how soon you want to be debt-free. A home loan is repaid over 20 – 30 years while a personal loan is repayable between five and seven years. So, if you want to be debt-free sooner, the latter may be a better option.
How you wish to secure your loan
Another important factor is the collateral used to secure the loan. If you default on your home loan repayment, you risk losing your home. A personal loan can be secured against any asset, or you can choose an unsecured loan (which is available at a higher rate of interest).
If you decide to opt for a personal loan, you may incur the following fees:
In addition to the interest, some lenders may levy an ongoing monthly fee.
Often, lenders charge an upfront application fee when you apply for a personal loan. Some financial institutions may waive this fee if you choose a secured loan.
A fixed personal loan locks in a certain interest rate. However, financial institutions may charge prepayment fees, also known as break cost fees, if you repay the loan before the end of its tenure. Check for lenders that allow you to make extra repayments without charging such fees.
Other things to think about
The type of loan you choose depends on your personal situation and requirements. Whether you choose a home loan or a personal loan, ensure the repayment schedule matches your budget constraints to avoid financial difficulties.