If you locked in a fixed-rate loan before interest rates began to rise, you may be worried about the upcoming ‘mortgage cliff’ when the term expires. Here’s how to avoid a budget shock when you revert to a variable rate.
When interest rates first started to creep up from their record low rates, hundreds of thousands of homeowners rushed to lock in a fixed-term rate.
In fact, the Reserve Bank of Australia estimates close to one-in-four mortgages was ‘fixed’ at the end of last year – which essentially means the rate was locked in for a period.
However, homeowners who locked in a fixed rate earlier – such as in 2020 or 2021, when rates were super low – are likely to feel a lot more pain when their term ends, than those who went for a fixed rate in 2022. That’s because the jump from rates of around 2 per cent to closer to 6 per cent could add hundreds or even thousands of dollars a month in interest, depending on the loan size.
Unfortunately, all of those fixed terms will eventually expire and homeowners will go back onto a variable rate, which usually means paying more in interest. Some may fix their loan again, but it will likely be at a higher rate than the one they were offered earlier.
If you’re in that position, there are a few ways you can make the adjustment a little less jarring.
1. Build a buffer
To test how you’ll cope with the higher repayments, you may wish to put a bit extra into savings between now and the end of the fixed term. For example, you could calculate the difference between what you’re paying today and what you will be paying when the fixed term ends using a mortgage calculator and put the difference into a savings account. You may benefit from a bit of extra interest, while testing how your household budget will be affected when the fixed rate expires.
Some fixed-term loans also allow you to make extra repayments, which could help ease the burden when the mortgage cliff arrives.
2. Adjust the budget
If your household budget doesn’t hold up against the higher repayments, it may be time to make some cutbacks. Think paring back discretionary spending where you can – such as curbing dining out, entertainment and subscriptions.
There are lots of online tools that can help with budgeting and identifying the leaks, such as MoneySmart’s budget tool.
3. Come up with a plan of action
Before the fixed term ends, consider talking to your lender about what rate you’ll be offered. Often, there’s a difference between what new and existing customers pay. If you’ve been with your bank for a while and have always made repayments on time, your bank may be willing to negotiate to keep your business.
If you want to go into another fixed term, it’s also wise to think about that in advance, so you can do the sums and get things started promptly.
If you decide to refinance to another lender, don’t forget to weigh the costs against the savings. Some lenders charge exit fees and application fees, so it’s worth doing your own calculations to see if refinancing makes sense.
Finally, if you’re having trouble paying your loan and it’s causing you anxiety, you can always speak to one of our Hardship Assistance trained staff on 13 61 91 or to a financial counsellor, for free, via the National Debt Helpline: 1800 007 007.