Global interest rates have soared since we published our November 2021 post, Should you fix your mortgage interest rate? | Walbrook Wealth Management.
Fixed mortgage rates, influenced more by the expectations of market participants for growth and inflation than the policy targets of central banks, were first to move as pent-up demand and supply-chain bottlenecks saw the emergence of inflation.
Central banks, playing catch-up as the 'transitory' inflation started to feed into the inflation expectations of consumers and businesses, then started to hike cash rates. The central banks combined these actions with aggressive 'jawboning' in an attempt to reduce the number of rate rises needed to cap inflation expectations, given household debt levels and general cost of living pressures.
During times like these, it is tempting to sit on your hands and make no changes to your financial arrangements.
However, they say that the best defence is a good offence, and taking control of your finances during these times can deliver some quick wins to help reduce the drain on household cash flow while also setting you up for future gains.
Restructuring your home loans and investment loans
After several years of booming asset prices, the average mortgage size in Australia has increased significantly.
If you are a borrower, one of the most straightforward actions you can take to improve cash flow and wealth creation is to review your current borrowing arrangements.
Banks offer rates to new clients that are lower than existing client rates, banking on the fact that they may lose some existing clients, but most will stay, continuing to pay the higher rates. Over time, a significant gap can open up between your rate and that offered to new clients.
You may see an immediate benefit by picking up the phone and asking for a better deal, though the rates offered are typically still above the 'new to bank' rates.
Working through a refinance process may yield far more significant benefits, regardless of whether your goal is improving cash flow, saving interest or borrowing to invest.
- Reduce your interest rate if your loan to value (LTV) ratio has decreased since you took your last loan or if the new lender simply has more attractive rates.
- Lengthen your loan term to 30 years or 35 years. Lengthening the term reduces your minimum monthly repayment, and by continuing to pay your previous, higher monthly repayment, you build up a tax-efficient savings balance available to redraw.
- Receive up to $6,000 cashback, subject to eligibility and lender policies, that you can use to pay down your loan (or any other purpose)
- Release equity for investment, which is discussed further in "Stocking up on dry powder" below
- Improve tax efficiency of your borrowing, where you have borrowed for personal, e.g. your home and investment purposes. Working with your financial adviser, you may be able to reprioritise your principal repayments to reduce tax and pay down personal debts more quickly.
- Reviewing your need for costly loan features, including offset accounts.
Regarding package loans with annual fees and offset accounts, offset accounts become more attractive as interest rates rise. However, you still need to do your sums and consider whether a cheaper redraw option is sufficient.
For example, you may find that the lowest interest rate on offer before discount requests is 3.01%, compared with the lowest rate of 3.19% for a loan with 100% offset.
On a $700,000 loan, at an interest rate of 3.19%, you need to keep an average daily balance of $39,498 in your offset account over the year to justify the additional cost.
Even then, unless you need same-day access to savings at that level, using a no-frills loan with redraw instead of the offset product would save you $1,260 per annum.
Stocking up on 'dry powder'
We often talk about "keeping our (gun) powder dry" when considering market conditions for investment, particularly during times of heightened volatility. While we might not be ready to invest now, we want to be prepared to invest when we see the right opportunity.
Starting yields matter to long-term investment returns, and house price weakness due to sharp rises in interest rates may eventually present an excellent entry point.
As Daniel Centofanti of Peritum Property pointed out in their July 2022 update for the Melbourne market, we are not quite there yet.
'While the media would have you believe prices have fallen dramatically, we are seeing a patchy market with A and B grade property still performing well."
"We have continued to see low stock levels through July with very few quality family homes, in particular, coming to market. It will be interesting to watch if we see if a higher than usual volume of properties hit the market in Spring and what that will mean for vendors..."
Inflation risk aside, those with equity ready to employ in the form of cash at the bank are well positioned to take advantage of any further weakness in house prices or other asset classes.
Equity in your home, investment property or other assets also provides a potential funding source, but to move quickly on investments means getting your powder ready in advance. Some banks are willing to let you access your equity on a 'cash-out' basis for investment purposes, giving you a 'cash-buyer' advantage in property negotiations or funding a diversified portfolio of investments.
Revisit your budget
For many households, reviewing the mortgage as outlined above will have the biggest impact. But whatever your circumstances, shifting from a low interest-rate low-inflation environment means it may be time to revisit your household budget (or put one in place).
Without sacrificing your lifestyle, reviewing your consumption levels can expose potential cost savings and encourage more mindful spending.
Update your budget to factor in higher loan repayments and the rising cost of essential items such as food, fuel, power, childcare, health and insurance. Review each of these items and establish whether there are any savings to be made.
Then look for easy cuts from your non-essential spending on things like regular takeaways, eating out and streaming services.
And finally, consider the structure of your expenses. Are you making the most of salary sacrifice? Can your insurance be held in superannuation?
Want to know more?
For financial advice or mortgage advice, please contact us on (03) 9013 6262 or via email at damien.crommie@walbrook.com.au. If you would like to discuss your mortgage needs within the context of your overall financial strategy, including investment, debt and risk management, we would be pleased to assist.
General Advice Warning
The information on this website contains general advice which does not take into account your personal objectives, financial situation or needs. You should consider whether the information and any general advice provided is appropriate for your personal circumstances and where uncertain, seek further professional advice before taking any action.
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