October 15, 2020
- What is a fixed rate home loan?
- What does it mean to break a fixed rate home loan?
- What is a break fee?
- Why do lenders chargea fee for breaking a fixed rate home loan?
- How do you calculate breakage cost?
- When is a break fee charged?
- Why do people break away from their fixed rate home loan early?
- How can I avoid paying early repayment fees?
- Refinancing.com.au is here to help you
Locked into a fixed rate home loan you’re looking to exit early? It pays to do your research if it means avoiding thousands of dollars in break fees.
While we encourage readers to keep an eye on their mortgage to ensure they don’t set and forget on an interest rate that is no longer competitive, it’s equally wise to get a full picture of any costs involved in changing loan products. This is equally true of fixed rate home loans, especially if you are still within the fixed rate stage of the mortgage.
Much as the name suggests, fixed rate home loans have a ‘fixed’ or set interest rate for an agreed period of time (usually somewhere between one to five years.) These rates offer a couple of key benefits – they make budgeting easy as your repayments do not vary, and they usually have low interest rates compared to variable rate home loan products. However, this second point can change at any time during the lifespan of your fixed rate home loan if the Reserve Bank of Australia eases the monetary policy. Why? When this happens, lenders often drop the interest rates across many of their home loan products to stay competitive with other lenders – but these drops are not passed on to people with a fixed rate loan.
But before you rush to break your fixed rate home loan for a better offer, there are a number of factors which influence whether or not doing so is actually the savviest financial choice for your specific situation; one of them being the fixed rate home loan break fee.
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Much as it sounds, this simply means you have chosen to end your fixed rate home loan before the agreed term of fixed rate period of the loan.
You may also find yourself ‘breaking’ your fixed rate loan should you exceed the maximum prepayment amount set by your lender during the fixed rate period of your loan product – this cap will be outlined when you take on the fixed loan, and varies between lenders. If you intend to make extra payments, ensure you are aware of the maximum amount you can prepay without fees and stay under it unless you seek financial advice that suggests otherwise.
This is the amount your lender will charge you for ending your fixed rate home loan contract before the agreed time period is up. The amount will be determined by your bank, based on a number of factors.
When a lender makes you a fixed-rate loan offer, it’s been calculated taking into account a variety of factors – a key one being most lenders borrow money from the wholesale money markets through the Bank Bill Swap Rate, at a rate locked in at the time your fixed rate is. Essentially, they also enter a contract to lock in their funding costs at a fixed rate.
When you break your fixed rate loan, this may cost your lender money and this amount will likely be passed on to you as a fee. This is known as a break cost, which are exclusive to fixed-rate mortgages. It is important to note this cost is different from mortgage exit fees and discharge fees, which your lender may also charge.
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Break fees are usually calculated using the difference between the fixed interest rate (which could be the retail or wholesale rate) at the time the contract was signed compared to the interest rate at the time of breaking the fixed rate loan, whilst also taking into account the length of time remaining on the loan. In short, a person breaking a fixed rate loan close to the end of the fixed rate period, where the interest rates have a negligible difference will likely pay a more modest fee – if any – than someone who breaks their fixed rate loan earlier in the fixed rate period and the current interest rate is far lower than it was at the time the loan began.
If you feel the break fee quoted by your lender exceeds what is fair and reasonable at covering their costs, you can challenge the validity of the fees under the National Credit Code or complain about these fees to ASIC.
While the fee itself will be charged at the time the contract is ended early, it is always wise to seek individual advice from your lender about what fee they will charge and when before making any decisions. Also note because official interest rates change all the time, advice you received months may no longer be accurate.
People break their fixed rate home loan for a variety of reasons, including:
- They’ve found a more competitive rate (this doesn’t always translate into a saving when all fees and charges are applied, so you’ll need to do some math ad seek individual financial advice on this).
- They’ve made extra repayments on the loan which exceed the cap set out in the contract documents.
- They have sold the property the loan is attached to within the fixed term period and their loan product is not portable (meaning it can’t be transferred to the mortgage for a new property.)
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There are plenty of ways to avoid paying early exit or repayment fees, both before and after you’ve signed on the bottom line. If you’re still shopping, you can:
- Before you sign up for a fixed rate loan, think about your repayment plans. If you are planning on making extra repayments, seek independent financial advice on the best type of loan product to suit your needs, or chat to your lender about what cap amount is applied to early repayment amounts and stay under them for the fixed rate period of your loan.
- If you’re likely to sell the property within the fixed rate period, talk to your lender about making the loan portable, allowing you to use it on the next property you buy.
- Consider a split loan, which will allow you to make extra repayments against the on fixed rate portion of your loan.
Already locked in? You could still avoid paying break fees by:
- Compare interest rates at the time you locked them in to current rates. If they haven’t moved significantly, you are close to the end of your loan period or they’ve risen, then there is a chance you may be looking at minimal or no fees – just call your lender first for a pay out break fee figure.
- Timing can make a difference, seek independent financial advice to determine (if possible) if waiting a short period of time to break the loan or make repayments in excess of the cap will substantially reduce or remove any break fees.
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When determining if refinancing is right for your circumstances, there is plenty to consider, and refinancing.com.au has the resources to help you make an informed decision. If you’d like more detailed assistance, contact eChoice, as our brokers can compare 100’s of home loan products and can help to find you a competitive mortgage that may make the break fees worth invoking.
Words by Melanie Hearse
Written by Refinancing.com.au
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