Written by Brendan Gilmour – Finance Director
Refinancing a loan involves replacing an existing loan with a new one. Whilst obtaining a lower interest rate is the number one reason why borrowers choose to refinance, there are a number of other potential benefits to consider:
- Lower interest rates: If you secure a lower interest rate on your loan, you will save considerable money over the remaining life of the loan. On a $1,000,000 loan a 1% lower interest rate will save you $10,000 per year. That means each 0.1% reduction in interest rate equals $1,000 in your pocket per year rather than the banks. There is always a bank offering a discounted ‘special’ rate to attract new customers – once they meet their quota they put their rates back up and another lender takes their place. These special ‘new customer’ rates will invariably be at least 0.5% lower than the market rate.
- Lower monthly repayments: You can extend the repayment term of your loan when you refinance which will lower your monthly minimum repayment. A strategy that many Hudson FP clients use is to extend the term of their loan but continue to make the higher repayment equivalent to the shorter loan term. If you continue to make the higher repayment then you effectively shorten the life of the loan and only pay interest on the reduced balance (whilst your minimum monthly payment remains lower than your actual payment). This can be a useful strategy to allow for unexpected changes to income or to provide a buffer for future rate rises.
- Change loan type: Refinancing is an opportunity to change from a variable interest rate to a fixed one (or vice versa) and also from a principal and interest (P&I) repayment to an interest only (IO) one. When your fixed term expires on a loan, most lenders will ‘revert’ your interest rate to a rather non-competitive variable rate. Taking this opportunity to refinance to another lender and take advantage of their ‘new customer’ rate can result in considerable savings.
- Change loan structure: For borrowers with investment properties, the original loan to secure the investment property purchase often involves putting their owner-occupied home up as security together with the investment property. Or perhaps the deposit was borrowed separately against the equity in their owner-occupied home. Refinancing is an opportunity to re-assess the equity position of both properties and consider whether the investment property loan can be ‘singularly’ or separately secured such that it ‘stands alone’ against the loan and not ‘cross secured’ with the home loan.
- Cash-out refinancing: If you have equity in your home, you may be able to take out a cash-out refinance loan. This allows you to borrow against the equity in your home and use the funds for other expenses, such as home renovations, a new car, personal and credit card debt consolidation, or even a family holiday!
- Improve credit score: A lesser known benefit of refinancing can be the potential to improve your credit score. You will be paying out the previous loan completely through the refinancing process and if you are able to make all of your repayments on time and even pay ahead of schedule with the new lender (reducing your debt to income ratio), you can improve your credit score.
Overall, whether refinancing makes sense for you depends on your specific financial situation and goals. The combined exit/application fees charged by the outgoing/incoming lender can be as little as $350 in total and in most cases are less than $700 combined. In 2022 our Hudson members that refinanced their loans saved between $2,000-$60,000 per year in interest! It’s a good idea to consult with your Hudson mortgage professionals to determine whether refinancing is right for you.