A mortgage is a loan you get to purchase real estate.
- Banks are not the only providers you can get a mortgage from. You can also turn to building societies, credit unions, private lenders, etc.
To get a mortgage pre-approval: you give the lender your financial statement, showing your income, expenses, assets and liabilities, credit report, supporting documents, etc., and they’ll tell you the terms on the loan they’re willing to give.
- Getting the pre-approval in writing lets you bid/negotiate for property.
- Usually it’s free to get the pre-approval.
You must pledge collateral assets to the lender so that in the event of a default, they can sell off your collateral and recoup their losses. The property you intend to purchase with the mortgage is often pledged as the collateral.
- Home equity is the difference between the value of the property and the loan you have on that property. You increase home equity by paying off the loan, and through capital growth of the house’s value. Home equity is often used by the borrower in getting a mortgage.
- When using home equity to get more favourable loan terms, a valuation will need to be done on the house (called a kerbside valuation). If you believe the value provided by the bank to be an underestimate, get another valuation done including the inside of the house and backyard.
Picking a Mortgage
The main considerations are:
- Low annualised average interest rate.
- Variable or fixed interest rate.
- Interest-only or principal and interest (P&I)
- Note that interest payments on investments are tax-deductible, but paying off the principal is not.
- Offset accounts.
- Redraw accounts.
- Recourse or non-recourse.
- Non-recourse: if you fail your end of the contract, the lender can foreclose your property only, not anything beyond that. This is riskier for the lender, and so you usually have to pay higher interest to compensate.
- Recourse: if you fail your end of the contract, the lender can go after your property and other assets. This is less risky for the lender.
- Whether to go with your main banking institution. It’s cheaper for banks to service 1 customer with many products, so they’re usually able to offer discounts that undercut the competition.
The vast majority of mortgages taken in Australia are variable-rate mortgages spanning 25-30 years.
Variable vs. Fixed
Variable rates can be changed at any time by the lender, but it loosely follows the RBA’s cash rate.
- Variable rates offer lower expected interest rates over the longer term.
- You can avoid refinancing the mortgage when interest rates drop.
- Standard variable rate (SVR) — a frequently quoted benchmark interest rate for the variable rate mortgages. Most mortgages actually offer rates below the SVR.
- Discount variable rate — lower interest rates, but may not offer offset accounts, redraw accounts, etc.
Fixed rates hold an interest rate constant over an agreed time period. The expected interest payments are higher than variable rate loans, but you get peace of mind knowing exactly how much you’ll pay x months/years from now.
- Lender likely disallows extra repayments or require you to pay a pre-payment penalty for early repayments.
- It may not be possible to sell off the house without high exit fees.
Split loans let you fix a fraction of your mortgage, leaving the rest subject to variable rates.
Refinancing
There are sometimes expensive exit fees.
Mortgage Brokers
| Pros | Cons |
|---|---|
| Saves time comparing products. | |
| . |
Banks pay the brokers both an upfront fee and recurring commission that exists throughout the loan’s lifespan. There also exists flat fee brokers where that recurring commission is rebated back to you.
“Even if you plan to shop on your own, talking to a mortgage broker may be worthwhile. At the very least, you can compare what you find with what brokers say they can get for you.” — Property Investing for Dummies.