Spring is a peak period for real estate, and this year property prices are still rising in many parts of Australia. As prices climb, so too are the amounts many people have to borrow to fund their home.
According to comparison site Finder, the average home loan currently stands at a record high of $319,000 – that’s $24,000 more than last year. Loan sizes are far bigger in some states, like NSW where the average mortgage is $366,700.
Having a large loan isn’t necessarily a problem if you can comfortably handle the repayments and the loan represents a manageable proportion of the property’s value.
What is worrying however is figures I’ve come across that show a growing trend towards interest-only loans.
Finder say that more than one in three (35%) home loans financed in the June quarter of this year were interest-only loans. This is the highest level since this type of data started to be collected in 2008.
Again, interest-only loans aren’t a bad thing in themselves. Indeed, it’s quite common for investors to select interest-only payments especially if they plan to make money by selling the property for a profit.
For home owners though, I reckon it’s important to stick with principal plus interest repayments. Yes, it will cost a bit more each month but you’ll be steadily chipping away at the loan balance. That means you’re continually growing home equity, and one day the place will be paid off in full. In my books, that’s a goal all home owners should work towards.
Moreover, with interest rates still at historic lows, home owners have an outstanding opportunity to pay off their loan sooner by making extra repayments – something that can be a lot more manageable when rates are incredibly low as they are today.
If you’re choosing interest-only payments because that’s all your budget can handle, I’d strongly suggest you’re borrowing more than you should, and it may be very wise to reassess the whole plan and look for a cheaper property.
Bear in mind too that lenders don’t normally allow borrowers to stick with interest-only repayments indefinitely. At some stage it’s likely you’ll be asked to start paying off part of the loan principal, and if that happens when rates are higher than they are now, you could find yourself financially skewered.
Buy property by all means. If you buy in the right location – close to amenities like shops, schools, entertainment, medical facilities and good transport – and pay a well-researched, fair market price, then long term you should be happy you did. But don’t go out on a financial limb to do so. Only buy what you can afford, now and in the future. I am not sure when, but interest rates will go back up. You have to factor that into your calculations and plans.