Types of loans
Normally, we are attracted to the lowest interest rates we can find. However, it is important to take a close look at what some of these options can mean. The following is a summary of some of the advantages and disadvantages of the interest rates available.
Floating mortgage rates rise and fall depending on how interest rates are moving. There are two important things to remember about floating rates:
- If interest rates go up, so will your loan repayments. If your interest rates go down, then your repayments will drop also. This can be great when interest rates are falling, but can have an adverse effect on your budget when rates go up
- If you want to make lump sum payments, or increase your repayments (to save potential interest) there are no penalties incurred
Fixed rates allow you to fix a rate for an agreed amount of time. This can be from 6 months to 5 years. Important things to remember about fixed rates are:
- You keep the same interest rate for an agreed time. This is excellent for budgeting
- If interest rates fall, you will have to remain on the fixed rate for the period
- Your loan may go to a floating rate after the fixed period
- Penalty payments may be charged for early repayments, lump sums, or increases in repayments
A split loan has a portion on the floating and fixed rates. Split loans combine the best of both worlds as they:
- Give a mix of interest rates so any rises and falls will not cause big changes in your repayments
- Allows you the flexibility, through the floating portion, to repay lump sums onto your mortgage
- Can provide interest rate protection by having different fixed terms
Some banks also offer Capped loans, which is a composite between the floating and fixed rates, whereby rates are based on the floating rate, however there is a ‘cap’ in place when rates rise beyond a certain point.
Revolving Credit Facilities
A Revolving Credit Facility (RCF) operates like a big overdraft and are sometimes referred to as ‘flexible’ or ‘overdraft’ mortgages. Revolving Credit Facility’s may be the ideal mortgage option for the following reason:
- Flexible repayments and easy access
- Interest saving where spending is disciplined
- Combined day-to-day finances with your loan
Flexible repayments and easy access
Revolving Credit Facility’s operates like a normal bank account with a chequebook or debit/credit card facilities. You can access the funds if you require, or you can leave it to operate like a normal loan account. Some Revolving Credit Facility’s allow you to borrow back up to the limit without bank approval.
You can arrange for your salary to be direct credited to your loan account reducing the outstanding amount on your loan straight away. Over time, this system reduces the interest costs of your loan, helping repay your loan quicker.
A further way to save interest is to use your credit card to pay for your living costs. You then repay your credit card from your Revolving Credit Facility (the credit card is usually interest free until the due repayment date). The RCF has all your pay until the last possible day, which reduces your loan balance, which in turn reduces your interest charges and lowers your overall loan term
Combined day-to-day finances
You can use your RCF as your cheque, savings and loan account. With your salary going into an RCF and an ATM card, you won’t need a cheque account. Extra money can be used to reduce your loan so you won’t need a savings account – and you can re-access this money whenever you want.
RCF’s are not for everyone – successfully running an Revolving Credit Facility requires disciplined repayment and spending habits. While a huge, flexible overdraft may sound great, a floating rate mortgage still allows you to make lump sum payments, as well as providing the consistency of fixed repayments.
NOTE: mortgage ‘eliminator’ type products with large establishment costs are often just revolving credit facilities.