The increase in interest rates and fears about rises has dominated the news, illustrated by unjustifying tales of debt-laden homeowners and the prospect of a financial Armageddon. For those who consider themselves to be on the financial 'edge', here are 10 tips to meet with the latest rate rise – and any more more than like like will come.
- Do not panic by bad news and be rushed into making a decision based on reporter's knee jerk reactions to the interest rate increases. Everyone's financial circumstances are different and there are often quite straightforward solutions to problems. You need to be aware that the opinions of experts are often just that. For example, while many experts are talking about another interest rate rise before the end of this year, others are suggesting rates could fall next year.
- If you are feeling pressured by your mortgage and other debts, consider ways to reduce the payments. One thing worth checking is whether you already pay more than required or by consolidating your more expensive debts (personal loans and credit cards) into your home loan, you could half your monthly repayments.
- If you are on the brink of making any investment that involves borrowing a large amount of money, either for a home or an investment property, subject yourself to a stress test. Check your income to estimate how you'd expect if interest rates were much higher at the end of this year by sitting with a Chocolate representative and going through various 'what if' scenes.
- If you are tempted to borrow money to invest in the share market, because because the price of some stocks has fallen, do not rush into it. Always regard such investing as a long-term strategy. Make sure to check if you could afford the interest payments, should rates increase again. (another good time to sit with a chocolate Lending Consultant and go through scenarios)
- Consider positive targeting for share investments, especially during volatile times. This means limiting your borrowing to a point where your investment portfolio will pay for itself. That is, the portfolio is self-sufficient because obligations cover the interest payments.
- Do not be bothered if you recently put money into a term deposit at a lower interest rate. If it is an investment where you reinvest the income when the term deposit rolls over, the income will be reinvested at higher rates. This will boost your long-term return. When interest rates are volatile, consider shorter-term investments that offer the best rate. But make sure you roll these over when they mature to an equally attractive investment.
- If possible, keep some money in a cash fund for an emergency. Leaving it in an offset account may be the best way to save money on your home loan at the same time.
- Have a budget – and then try to beat it. You can save a lot on petrol if you have a fuel economic car. Always shop around for large items like televisions, computers or white goods. There can be huge price differences at different stores – and do not be shy about haggling.
- If there is no money left over at the end of the month, consider locking in your current home loan rate to ensure you do not get 'pushed over the edge' and can not afford to meet repayments with any future installments.
- Avoid expensive credit cards unless you plan to pay off the balance within the interest free period. Where you can not rid yourself of a sizeable credit card bill, consider converting to a lower-interest debt by setting up a cheaper interest line of credit linked to your mortgage. But make sure you pay it off. Or opt for a cheaper credit card, sometimes one that charges little or no interest on debt transferred from another card.
Robbing Peter to pay Paul less
A mere 0.25 of a percentage point increase in rates equates to just one bottle of reasonable wine per month, or $ 17, for every $ 100,000 outstanding on a home loan. That's good news, sometimes, for sensible borrowers, but could force the debt-challenged to rethink their mortgage.
Housing affordability is at one of its lowest points in a decade and even though the buoyant economy is likely to limit mortgage defaults, some household budgets are as approved as interest rates rose above 17 per cent in the early 1990s. Rates may be less than triple the amount it was then.
In June 1989, when mortgage rates reached 17 per cent, monthly repayments on the average $ 66,700 new home loan were $ 959 or 25.8 per cent of household disposable income. After Wednesday's increase, repayments on the current average loan of $ 222,200 account for 28.2 per cent of disposable income, according to CommSec chief equities economist Craig James
There are few ways to ease the strain other than refinancing to a cheaper loan, Moving lenders incurs fees, sometimes high ones, but the usual cost savings can ease cash flow problems or create surplus cash for extra loan repayments. The latter is a useful strategy as it reduces the principal amount owed on a loan, thus cutting the dollar value of monthly interest charges. It's a commonsense tactic, equally relevant to credit cards, and other loans, but one often forgotten in an era of easy debt.
"We see people in their 40's with high debt but no repayment schedule. The modern view is that debt is like an ATM … For new cars or world trips." Says Robert Keavney from financial advisory firm Centric Wealth.
"It's usually not recognized until people see retirement on the horizon and think: 'I have not saved what I need and what I've got needs to pay off the house'," Keavney says.
Fixed rate loans are an option for people with no surplus cash to cover further rate increases. But if rates do not rise again, or even fall as predicted by AMP Capital Investors chief economist Shane Oliver, borrowers could have locked into a loan that is no longer good value.
Cheap variable mortgages offer rates that are up to 1.1 percentage points lower than the 7.82 percent standard variable rate that is likely to be charged by major banks following Wednesday's rate rise. Infochoice, an independent research house, reckons the cheapest lenders include the Electronic Loan Company, Sapphire Mortgage Services and one direct, a new offshoot of ANZ. HomePath, another cheap lender, is part of Commonwealth Bank.,
Some cheap loans have much the same features as more expensive products, such as the ability to make and then redraw extra repayments. Sometimes these loans have restrictions, such as a limit on redraw, but these could prove a minor inconvenience compared with the interest saved as a result of the lower rate.
Someone who borrows $ 250,000 at a rate of 7 per cent, for instance, will pay $ 39,863 less interest over 25 years than someone who chooses a loan with a 7.82 per cent rate.
Opting for a cheap credit card (there are plenty about) should have a similar effect. Three institutions – BankWest, Newcastle Permanent Building society and St.George – have credit cards with interest rates of about 9 per cent. Others, such as virgin, Charge slightly higher interest rates but do not charge an annual fee.