Sooner or later, the Reserve Bank of Australia will stop increasing the cash rate. For now, though, we’re operating in an environment of rising interest rates, as the RBA attempts to bring inflation under control.
Every time the RBA increases the cash rate, it becomes more expensive for lenders to borrow money from each other. Many lenders then pass on these increased costs to their customers by increasing rates on their variable-rate loans.
If you are an existing mortgage holder, refinancing onto a lower-rate home loan can help ease the pain of these rate rises.
But what are some of the things you should consider when you are a prospective borrower and mortgage rates are on the up?
How much can you borrow?
The higher the interest rate, the more expensive it is to borrow money.
As a result, the maximum amount of money you can borrow (known as your borrowing capacity) from a lender naturally falls as rates rise. This can impact your home buying budget.
That said, your borrowing capacity largely depends on your personal circumstances, such as your income, debts, living expenses and deposit size.
So if you are worried you won’t be able to borrow enough, there are things you can do to improve your borrowing capacity in the months leading up to application such as:
- Increasing your income
- Saving a bigger deposit
- Reviewing your credit report to fix any errors
- Paying off debt
- Keeping current with your bills
- Reducing your spending
What loan type best suits your needs?
Home loans in Australia come in many shapes and sizes, with lots of features and structures to choose from.
Take the interest rate type, which can be:
- Fixed rate: This means your interest rate will stay the same for a set period (typically between 1-5 years), regardless of market movements. So you will be protected from any rate increases. On the flip side, if rates subsequently drop, you won’t save any money.
- Variable rate: This means your interest rate can rise or fall throughout the term of the loan, depending on market movements or any changes made by the lender. Variable-rate loans may come with a lower interest rate than their fixed counterparts. However, should rates rise, your repayments will as well.
- Split: Split loans let you fix a portion of your interest rate while the other portion is variable.
Some home loan features, such as an offset account, can also help you get ahead of interest rate rises.
An offset account is a transaction account that’s linked to your home loan. The balance of this account is ‘offset’ against the interest charged on your home loan – which can help you save money and pay off your loan faster.
Imagine, for example, that your home loan balance is $500,000 and you have $20,000 in your offset account. In this case, you would pay interest only on $480,000 (i.e. $500,000 minus $20,000) rather than the full $500,000.
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