How Does Home Loan Refinancing Work In Australia: Explained

Savvy homeowners constantly look for ways to lessen debt, save money, build equity, and eliminate mortgage payments.

Refinancing can be a great financial move to bring debt under control and add stability to your finances. It involves replacing your current loan with a new one, usually through a different lender.

Before you begin the process, you should know what home refinancing is, how it works, its pros and cons, and the steps to execute your refinance journey.

1. What Does It Mean To Refinance Your Home Loan?

Refinancing a home loan means paying out your original loan with a new one that has more favourable terms or fits your financial goals.

This valuable tool helps shorten your loan term and lower your repayments, making it more affordable to make additional mortgage repayments and own your home sooner.

2. Why Would You Refinance Your House?

Getting a lower interest rate mortgage is the prime reason to refinance. Other causes include the following:

• To reduce the mortgage term when interest rates drop. It helps you save a substantial amount in interest payments.

• To convert their adjustable-rate home loan to a fixed-rate home loan or vice versa based on prevailing interest rates and how long they plan to stay in their current home.

• To manage finances easily, consolidate debt such as a car loan, credit card, or personal loan into your mortgage. 

• Access your home's equity to raise funds to deal with a financial emergency, fund an expensive purchase, invest in a home improvement project, travel, etc. 

• To take advantage of new home loan refinance offers and features such as redraw facilities, an offset account, refinancing home loan cash back, or flexible repayments. 

3. How Does Home Refinancing Work?

In Refinancing, you replace your current mortgage with a completely new loan that could be with a different lender. It can help ease your financial burden and make money in the long term.

The process is similar to the original mortgage application process. A lender assesses your finances to determine the level of risk you bring to their business and your eligibility for a favourable interest rate.

As a result of Refinancing, your new loan might have different terms that might reset the repayment clock. For example, it may change from:

• a 30-year to 15 years (standard), 10 years, 20 years, or 25 years, 

• a 4.5% to 3.5% interest rate, or 

• an adjustable rate to a fixed rate.

Refinancing a home loan involves a range of costs which is a significant factor to consider when deciding whether transiting to another loan provider makes financial sense. Some of these include:

• Exit costs 

• Deferred establishment fees

• New application fees

• Loan approval fees

• Additional mortgage stamp duty

• Additional lenders' mortgage insurance when your equity is below 20%

• Settlement and handling fees

• Mortgage registration

• Account keeping fees on a new loan

4. What Are Two Benefits To Refinancing A Loan?

Refinancing has many advantages, the most common ones being:

1. It can reduce your monthly payment and use the money saved on interest to pay off your mortgage sooner 

2. You can draw from your home's equity to fund immediate financial needs.

5. What Are The Negative Effects Of Refinancing?

Refinancing, when not done thoughtfully, can lead to a loss. As you consider the reasons for refinancing a mortgage loan, you must also consider the disadvantages of refinancing a home loan before applying.

• Closing costs can be expensive. 

• If you choose cash-out refinance, you could have less equity in your home.

• Lengthening your loan term can cause you to pay more interest and delay your repayment date.

• A drop in the rate right after you close the loan may cause disappointment.

• The refinancing process takes time. You must wait 15 to 45 days for a full and final settlement.

• Existing loan closures and hard inquiries can impact the length of your credit history.

• As market conditions affect your options, there is no assurance that you will get better terms on the new loan.

6. What Are The Types Of Home Loan Refinancing?

Home Loan Refinancing mortgages come in three types. The best option depends on your finances.

Rate-And-Term Refinance

It is a basic form of refinancing with the primary goal of saving money. It changes the interest rate of the loan, the repayment length of the loan, or both.

You can either save every month with a low monthly payment or pay lesser interest because of a shorter loan term or a lower home loan rate.

Remember that refinancing into a shorter loan period will increase your monthly payments. But you save money in the long term by eliminating many years of interest payments.

Let us understand it through an example. Assume a loan of 30 years, at a rate of 5.5% on a $100,000 home, has an interest payment of $568. Refinancing that loan to 4.1% reduces the amount to $477.

Cash-Out Refinance

The primary goal of cash-out refinances is using your home equity to take cash out to spend. Though it allows you to spend money towards any financial plan, it increases your mortgage debt.

In a rate-and-term refinance, the new loan balance equals how much you owe on the home. The balance helps pay off your current mortgage. On the other hand, in cash-out refinance, the new loan balance is more significant than what you presently owe.

It repays your current mortgage balance, and the money that remains after repayment is the amount you take out.

Cash-In Refinance

It is the opposite of cash-out refinance. Here the homeowner makes a lump sum payment towards the principal to reduce their loan-to-value ratio.

It reduces your monthly payment and overall debt burden and helps you qualify for a low-interest rate.

However, before you put extra funds into your mortgage, make sure it doesn't deprive you of lucrative opportunities or drain your savings.

7. How Do You Apply For A Home Loan Refinance?

The process of refinancing a mortgage is similar to the process of applying for a new mortgage loan. 

Here are the six simple steps you will need to take:

Step 1: Evaluate Your Financial Situation

The first step to applying for a refinance is to assess your financial situation by considering factors such as:

• The present worth of your home

• Your credit history and score

• Your payment history on your current loan

• Your income and employment history

• How much equity do you hold in your home

• Any other debt obligations

Lenders consider these factors when reviewing your application and determining your eligibility for the loan.

Step 2: Review The Types Of Refinance

Shop around and evaluate the different refinance options available to find the best for you.

Undergo the preapproval process with at least three potential mortgage lenders and compare them on interest rates and other terms. By doing this, you have the maximum possibility to find the best offer available.

Step 3: Calculate

Having selected the best offer available, compare the potential refinance costs to potential savings.

Also, watch out for prepayment penalties and other expenses that can cause issues if you pay off your current mortgage early or refinance again.

Step 4: Submit Your Application

Once you have decided on the lender to go with for mortgage refinance, you need to submit an official application to it. You must provide information about your home, employment, assets, and current mortgage loan.

Lenders would ask you to furnish the following documentation for various aspects of the application.

• Two most recent pay slips

• W-2 forms

• Tax returns

• Two most recent bank statements

• Investment and Business account statements

• Government-issued photo identification

• Sources of funds

• Spouse's documents if you are married and in a community property state

• Additional income documentation like tax returns of a couple of years if you are self-employed.

Step 5: Wait For The Approval

After you submit your refinance loan application, the lender starts the underwriting process. It includes:

• Verification of financial information

• Check your creditworthiness

• Verifying the property details by performing the refinance appraisal to determine your options.

• Check whether you have adequate home equity to eliminate private mortgage insurance.

Your lender may order the appraisal and send the appraiser to your property to estimate your home's value.

Step 6: Close Your Loan

Once underwriting and home appraisal are completed and your application is approved, the lender sends you a Closing Disclosure to close the loan. You will review the loan details, sign your documents, and pay closing costs.

Once done, the lender pays off the original loan and opens an account for your new loan. In the case of a cash-out refinance, you will receive the cash through a wire transfer or check.

8. Comparison Of Refinancing Home Loan Rates In Australia

9. Frequently Asked Questions (FAQs)

Is Refinancing A Loan A Good Idea?

Refinancing can be advantageous in the following cases:

• If you have had your current home loan for several years, and your needs have changed, or your loan doesn't offer flexible features or add-ons like other loans on the market. In that case, with Refinancing, you may get a loan that better suits your needs.

• Refinancing is worthwhile only when the interest rate of your new loan is 0.75–0.80% off your current rate. Besides money savings, it also reduces the size of your monthly payment and raises the rate at which you build equity in your home. 

What Should I Watch Out For When Refinancing?

Refinancing can be risky if you don't assess your finances and perform adequate research.

Consider the following before you start the refinance process:

Step 1: Check your credit. Ensure there is no negative or erroneous information in the report. Doing this, prepare your credit for the process and spot issues that could impact your approval until closing.

Step 2: Analyze your financial situation and determine the following:

• How long do I plan to continue living in the house? 

• How much money will I save by refinancing?

As refinancing costs range between 3% and 6% of the loan's principal, you might require years to recover the cost with the savings you earn by moving to a lower rate or a shorter-term loan. If you do not plan to stay in the home for many years, the cost of refinancing may nullify your potential savings.

Step 3: Compare home loans for refinancing based on their upfront and ongoing costs. Since refinancing costs around 3%- 6% of the loan's principal and requires an application fee, title search, and appraisal fees, consider it only when you can recover the costs within 12 months.

If in doubt, consult a lending specialist to assess your present financial situation and determine what you can afford with your budget.

Step 4: If you consider cash-out refinance to deal with a financial emergency, know that you may have to pay a higher interest rate on the new loan than for a rate-and-term refinance, where you don't take out money.

Step 5: If you have saved below 20% of the purchase price as a deposit, you may have to pay Lenders' Mortgage Insurance or Low Deposit Premium.

Step 6: After you refinance to a more suitable mortgage product, ensure you evaluate the health of your home loan once every few years to keep your financial goals in check.

Do You Get Money Back From Refinancing Your House?

Yes. If you have significant equity in your home, you can use cash-out refinancing to get some of your home equity.

Homeowners can use this fund to tackle the financial crisis, consolidate debt, invest, renovate or finance a large purchase.

Can Refinancing Hurt You?

Refinancing a mortgage can negatively impact your credit for multiple reasons:

• Mortgage lenders do a credit check to determine whether you qualify for a refinance. This check shows up on your credit report. A single lender's inquiry can take up to five points off your score. 

However, the impact is only for a short period if you don't open any other loan like a credit card and continue repaying your debts. Your credit score can recover after a few months.

• When you refinance, you close one loan and open another. It shortens the history of the loan you have held for several years. As your credit history constitute 15 per cent of the score, this act can cause a dip in your score.

How To Lower Monthly Mortgage Payment Without Refinancing?

You can consider a mortgage recast wherein you make a large lump-sum payment towards the principal so your loan provider can re-amortize the balance.

Can I Save Money On A Mortgage Without Refinancing?

Yes. You can make a scheduled monthly payment and pay an additional amount on the loan's principal balance. Such regular direct-to-principal payments reduce the loan term and overall interest charges.

Do They Look At Your Bank Account When Refinancing?

Yes. The loan servicer checks your assets and credit before you are approved. They look at your bank statements to find what lies in your bank account.

If you wish to apply for a refinance, make sure your statements reflect a stable balance history and are adept at managing your finances.

Do You Lose Money When You Refinance Your Mortgage?

Closing costs can run between 2 and 5 per cent of the amount you refinance. It includes loan origination and appraisal fees to assess your home's worth.

You can lose money if you have no plans to stay in the house for longer. It is because recovering the money spent on fees is practically impossible from the savings resulting from the refinance.

How Do You Know If It's Worth It To Refinance?

Knowing when is the good time to refinance your home loan depends on your present financial situation and the general financial climate.

It is not advised when the market is volatile and refinancing home loan rates in Australia are rapidly rising. It is when you need to wait till the market gets stable and the rates drop.

Refinancing is worth considering when:

• You plan to remain in your home for many years to come

• You extend your loan term to make monthly payments affordable 

• Use the equity you have built to finance home improvements

To find the best refinance, you need to put in time and effort to research the options and the lenders. Using a refinancing home loan calculator, you can find your break-even point after computing refinancing expenses.

What Disqualifies You From Refinancing?

Here is a list of common roadblocks that may prevent you from a mortgage refinance:

• Insufficient equity due to low down payment or dropping property prices

• You have applied for a large loan but don't have a matching credit score. 

• You have a less-than-perfect credit score.

• You lack a stable flow of income. Lenders usually want two years of steady employment. You might face issues during application approval if you are a freelance or seasoned employee or have experienced a significant fall in your earnings. 

• You don't have adequate assets to show your capability to pay mortgage payments.

• You listed your property for sale. It can be another obstacle for lenders to lend you. It shows them a lack of interest among people to buy your property, and so you have to sell it off the market.        

What Is Better - Refinance Or A Loan Modification?

Where refinancing replaces your current mortgage with a new one, loan modification changes your existing loan terms to add missed payments into your balance to help you stay in your home.

A loan modification is done directly through the lender and permits it only when you are at immediate risk of foreclosure or your home loan is underwater.

In the case of refinance, homeowners can apply for a refinance to change the term, interest rate, and type of their loan. They can even take cash out of your equity using a cash-out refinance.

It will help if you consider loan modification only when you can't approve a refinance and require long-term payment relief. It should be your last option, as it can negatively impact your credit score.

What Happens If I Refinance My House And The Value Goes Up?

Appreciation in your house value might allow you to access home equity that you might not have been eligible for earlier. Higher home values can also help remove mortgage insurance.

However, it can cause your monthly payment to increase, irrespective of your refinance rate. It happens when you put insurance premiums and property taxes in escrow and allocate the yearly costs into your monthly payment. As your home value increase, both of these may rise.

Is It Better To Pay The House Off Or Refinance?

Whether refinancing is better or paying off the house depends on your financial state and what is going on in your life. 

Here we have discussed a few scenarios along with the best option to choose in each of them:

• Is there a "Major" difference between your loan's interest rate and the prevailing interest rate? Refinancing is a better option to save money by moving to a lower rate. You may make insignificant savings if the rate is close to market rates.

• Do you plan to purchase another house soon? Refinancing can help you grab a better deal on the new property.

• Do you want to save on interest payments? Based on the size and term of a home loan, the interest can cost tens of thousands of dollars in the long run. It makes sense to pay off your mortgage early to free up that money for other use.

• Do you have a lump sum or any windfall gains? Consider paying off the mortgage to quickly pay down debt and save money on interest charges with time.

• Are you looking to free your house from debt sooner? Consider refinancing as it allows you to shorten the loan repayment time to close your mortgage faster.

• Do you find monthly payments unaffordable? Refinancing can help you switch to a longer-term loan that reduces your monthly payments and make it easier to manage payments. 

It is ideal when you want to keep your monthly payments low but don't have adequate cash to pay off your house quickly.

• Is your mortgage rate higher than the interest rate of risk-free returns? In such a situation, you would be better off paying the mortgage.

• Is the value of the equity you have in your home exceeds what you owe on it? It would be best if you considered refinancing. It gives you access to this money without having to sell your home and offers you more flexibility on how you use it. 

What Three Aspects Should You Consider If Refinancing Is Right For You?

• Examine your credit score and financial state before applying. Your low credit score and inconsistent income can be the reasons for disqualification.

• Consider how long it will take to pay off the refinancing costs compared to how long you plan to stay in the home. This way, you can find out whether you can afford the new payment, and you will have adequate equity remaining in the house.

• Check the refinancing costs (entry and exit costs) and whether you can recover them in the short or medium term. 

10. Conclusion

Refinancing can be a valuable money-saving tool in the long run if you can reduce your payments or lower your interest rate.

However, ensure you assess your current financial state, compare refinancing costs with savings, estimate your plans on staying in the home, and compare each lender's mortgage rates before making the big move.

Useful Links to Explore:

• English Language Requirements for Australia
• Cultural differences you may experience in Australia
• How to find Part-Time work as a Student in Australia
• Seven Tips for Students on a Budget in Australia
• How to get a Scholarship to Study in Australia
• Driving in Australia as an International Student
• How to change your Course or Institute in Australia
• The Benefits of a Professional Year Program (PYP)
• A Complete Guide to Study in Australia
• Types of Education in Australia 
• What to Study in Australia?