Frequently Asked Questions
What You Ought to Know
A little while ago we were talking with the owner of a small but growing landscape business and a home, a smart guy who understands business. He’s saving for another house to rent out. He also said he’d never thought about his mortgage because he was afraid he wouldn’t understand the ‘lingo they talk’ when dealing with the bank. Since we help people with mortgages you can imagine this was something of a shock… made us think how many other people would like to understand the banking terms better.
The mortgage business does use a lot of specialised words but there really isn’t anything especially complicated or mysterious about what these mean. Because we’ve used them so long and so frequently we’ve just assumed everybody understood them. That has been our mistake. And a big mistake. For if people don’t understand what mortgage terms are, they aren’t likely to spend their time considering their options. “So what?” you ask. Well, here’s “what”.
A lot of people might want to invest some of their savings where they can get a fair return on them, for many New Zealanders this has been in property. But they are unfamiliar where to start or what their appetite for risk and rewards are. If you want to consider home loan options but you’re unfamiliar with the terminology, it’s unlikely you will put your money into them, and miss out on the benefits. For all these reasons and more, it’s important that people know as much as they can about this mortgage business.
You can skip over the stuff you already know.
What is the difference between fixed and floating terms?
Fixed terms bring certainty to your mortgage repayments over the agreed period (for example 4.69% fixed for 2 years). In NZ it’s common to fix for 1-3yrs at a good interest rate (what on the day is perceived to be good). Banks like to have a mixture of fixed and floating loans on their books to manage their own risks to the global markets and this is one of the reasons the rates fluctuate. Banks try and keep both the fixed and floating rates somewhat competitive and let the consumer decide.
It’s more traditional in New Zealand for people to fix for short to medium terms and assess the rates every few years. Floating terms allow you to ride the interest rates up and down, this is linked to the Official Cash Rate (OCR). Your repayments will go up and down each month but you’ll be able to fix when you think there’s a good interest rate.
Should you fix, refix, refinance, or float…?
This really depends on the type of homeowner or property investor you are. When the rates are low and falling you’ll want to fix at a good rate before they start going up again. All global markets go up and down in cycles that are very hard to predict, even the experts struggle, so it’s best to get advice from an expert you trust.
What is re-fixing?
When you’ve got a mortgage on a fixed rate you can re-fix with the same bank at a different interest rate but there’s usually a penalty for this. The reason you’d consider this is because the savings from the lower interest rate would be lower than the cost of the break fee(s).
What is the difference between re-fixing and refinancing?
Re-fixing your mortgage refers to a new loan with the same bank you’re already with. Refinancing is when you change banks to take advantage of lower rates. Whilst it’s easier to stay with your current bank, it can be more better to refinance your mortgage with a different bank who will offer more attractive interest rates or offer you cash back to incentivise you to switch. Most banks have dedicated teams to help people switch banks and all automatic payments are seamlessly brought over. One of the reasons banks do this is because of their monthly targets. Your current bank might not be able to match the attractive rates and rewards being offered by other banks.
Use our refinance calculator to see how much you could save with a lower interest rate.
What are ‘break costs’?
Break costs are the penalty for cancelling your mortgage. The bank will try and discourage you from changing to a lower rate or switching banks by charging you a fee. Usually the only reason you’d pay this fee is because the benefits are bigger than the fees. If you’re switching banks the new bank might help you pay these fees with cash back. You can also add the break fees to your mortgage with the lower interest rate and pay this off over the life of your mortgage. In the long run it is often a small price to pay for the benefits of re-fixing or refinancing. Some people do get a little worried when the break fees are big fees in the $5-10,000+ range but when they see that they are saving much more than that they can see it is worth it.
Use our break fee calculator to get an estimate of your break costs.
Should I float or fix or both?
That’s a tough question and without too much more information it’s best to leave it with this: if you have an average mortgage and can make the repayments consistently each month, you’re probably fine with either option. If money is tight you’re best to fix now while rates are low and work out your costs going forward with a plan in place. Again, it’s best to get an expert to look over everything and like you would with medical questions, a second and third opinion can’t hurt… especially when they’re free.
What is the ‘principal’?
The original loan amount. If you buy a $600,000 home and have $100,000, the borrowed amount of $500,000 is the principal. Paying back the mortgage each month reduces the principal. However, because of interest a payment of $500 paid monthly will only reduce the principal by $450 with $50 covering the cost of interest (the numbers used are just for the example).
What is ‘interest’ and what are ‘interest rates’?
Interest is the payment the bank receives for lending you the money. The bank takes the risk therefore their reward is making small amounts of money each month that add up to a lot of money of the lifetime of the mortgage. There are other ways banks make money from your borrowing. Interest rates are the amount charged when you have a loan. Interest rates fluctuate when economic conditions change. In the media you’ll hear about house prices and the reserve bank (RBNZ) and they’ll often refer to interest rates going up or down… just like fuel prices the cost to the end user is determined by many many factors out of your control.
What are ‘interest only mortgages’?
Interest only mortgages allow you to reduce your repayments each month but do not reduce the principal. In other words you’re not making progress in paying off your mortgage you’re only paying for the privilege of borrowing the bank’s money. Short term these may be necessary but are not recommended. Many property investors use interest only mortgages strategically to buy property by using equity in one home to buy another but they pay off their first home before paying off the second.
What is revolving credit?
With a revolving credit facility when you are paid your wages or salary, or put more money into that account, your interest payments come down. Banks will often try and sweeten the deal with different revolving credit and rewards options.
How do banks make money?
At a very basic level, banks charge interest on money they lend out, this is how they make money. When you deposit money with the bank you also earn interest, typically this will be less than the interest they charge for people that are borrowing. Fees and other associated charges help with the day to day running of the bank, it’s actually very good for banks to make good profits in boom times because of the inevitability that one day there will be tough times and banks will need to call on their reserves to survive. Banks are making lots of money from credit card lending and late payments (pay your credit card debt before buying a house).
What is a bridge Loan?
A bridge loan usually applies where you’re selling your house after you purchase a new property and rely on the sale of your old house to ensure you’ve got money for the new house. Sometimes the banks won’t lend and non-bank lending (at a higher interest rate because of the risk) applies.
What is LVR?
LVR is the loan to value ratio and relates to the percentage of the loan your require to the deposit you have. For example if your want to buy a $500,000 property and require a 20% you will need $100,000 deposit. The equation looks like this: House Price ($500,000) x LVR 0.20 (20%) = Deposit Required ($100,000). In New Zealand the LVR is a guideline from the Reserve Bank of New Zealand (RBNZ), many think the Government influences the RBNZ but they do not as the it is run separately. Banks have to follow RBNZ guidelines.
“Why has the Reserve Bank imposed LVR restrictions?
The Reserve Bank believes that the housing market poses a risk to financial stability in New Zealand. Housing lending makes up about half of bank lending in New Zealand, and a home is usually the single largest asset that a family owns. These factors mean that any instability in the housing market could undermine the stability of the wider banking system and economy.
In October 2013, Reserve Bank Governor Graeme Wheeler published an opinion article: Why Loan-to-Value Ratios were Introduced.
The Reserve Bank actively monitors developments in the housing market and is committed to taking action when necessary.”
More questions? Get in touch!
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