‘Irrational’ borrowers switching to more expensive property loans

Rates for fixed-term mortgages reflect what is happening in the bond market, which is where banks, companies and governments borrow money. Sharp rises in bond yields are increasing borrowing costs, which are getting passed on to borrowers.

There are also fears that strong post-COVID-19 economic momentum will trigger multiple cash rate rises starting in August, much earlier than previously predicted by Reserve Bank of Australia governor Philip Lowe, driving up variable rates.

The bigger picture

“Property buyers are paying an extra 100 basis points for the security of a fixed mortgage rate because they are concerned about rising interest rates and the economic outlook,” adds Phoebe Blamey, director of Clover Financial Solutions, a mortgage broker.

Tindall adds: “Don’t get tied up in knots trying to guess precisely what rates will do. You need to keep sight of the bigger picture, which is picking the right loan for your finances.”

An owner-occupier with a 25-year principal and interest loan could be nearly $7,000 worse off by breaking the term to start a new three-year fixed rate rather than moving to a variable rate at the end of the first three-year term, according to an analysis by RateCity.

That’s before the additional costs imposed by a lender for breaking a fixed rate and new loan set-up costs.

Let’s say Angus switches just before the final year of a 2.27 per cent, three-year fixed rate to a new three-year rate of 3.28 per cent because of concerns rates will move even higher.

The RateCity analysis finds that Angus would be better off waiting out the term of the first fixed-rate loan and then switching to a basic variable rate on offer from any of the big four banks. He would save more than $7000 in interest repayments by the end of the second fixed-rate term in 2024.

The scenario assumes Angus took out the first fixed loan in April 2020 for three years at the then average big four bank rate of 2.27 per cent. The current big four average three-year rate is 3.25 per cent. The cash rate is assumed to have risen to 1.65 per cent by 2024, which is in line with forecast cash rate increases.

Chris Foster-Ramsay, principal of mortgage broker Foster Ramsay Finance, says other borrowers are switching from near record-low variable rates into fixed rates costing 75 basis points more.

“It’s irrational,” says Foster-Ramsay. “Fearful borrowers are being spooked by all the hype about rising rates into more expensive borrowing products without doing their research and making sure they will be better off.”

The accompanying tables show fixed-rate loan offers from smaller lenders are about 140 basis points cheaper than what the big banks are offering.

For example, BankVic’s best five-year rate is about 2.59 per cent compared with 3.99 per cent from ANZ.

Southern Cross Credit Union is offering 2.19 per cent for a three-year fixed rate compared with CBA’s 3.24 per cent.

There are still 63 variable rates and 21 fixed rates under 2 per cent, adds RateCity’s Tindall.

“Deciding whether to break and re-fix, or see out your current fixed-rate contract, is a difficult decision. Not only does it depend on what fixed and variable rates will do, but it often can come down to the individual’s personal circumstances and how much they shop around,” she says.

The key issues borrowers need to consider include:

• What rates are on offer and what variable rates will do in the future
• What extra repayments can be made before a rate rise
• Fees and charges, including application, settlement and discharge costs. Breaking a fixed rate can cost thousands of dollars, discharge fees can cost another $500 and then there are establishment and annual fees with the new lender
• State government fees, such as mortgage registration, can cost $500
• Ensure the loan is portable so it can be switched to another property
• Does the loan include features, such as an offset account, and allow additional payment?