Compare the costs of at least three lenders before taking out a home loan. Variable rate mortgages, fixed rate mortgages, indexed rate mortgages, capped rate mortgages and high or low start mortgages all differ in their terms. Mortgages give lenders extensive power if borrowers default. Mortgage loan insurance exists to protect lenders and many be required for a loan. The First Home Owners Grant has strict eligibility terms.
Most people buy a home with personal savings, proceeds from sale of an existing home, a mortgage, vendor finance and government assistance. If the sale involves an agent who makes a promise about finance, the agent must give the buyer a statement about the promise and receive an acknowledgment before the buyer signs any other document.
The sensible place to keep your savings is with the financial institution that you use for the home loan. Select an institution that gives a reasonable return and protects your capital.
Selling first and buying second is more sensible: your financial position is clearer and you have leisure to search for a new home, even if you have to rent in the meantime. The proceeds of the sale should be kept in an accessible, interest-earning investment in the buy–sell interim.
If you plan to buy before you sell, investigate the availability and terms of bridging finance. Even if the settlement dates in the contracts are very close or identical, the sale of your existing property might not be completed on time, or even at all.
Loans for houses are available from first- and second-tier banks, building societies, mortgage providers, co-operative housing societies, credit unions, life insurance companies, and finance companies. Other sources of credit include the vendor, trustee companies and solicitors’ trust funds.
When comparing loans, you should obtain precise information about:
•the expenses of establishing the loan, including valuation fees, the cost of the lender’s solicitor, the establishment fee and any up-front charges;
•when and how payments are to be made;
•administration charges, and any charges for debiting an account or sending a periodic bill;
•other periodic charges;
•rate of interest and expected fluctuations;
•whether the rate is fixed, variable or mixed and, if variable, the past practice and future intentions of the lender for varying the rate;
•whether payments of interest are in advance or in arrear;
•whether extra instalments of principal can be made during the period of the loan;
•whether interest on these advance payments is saved and, if so, how much;
•whether the loan can be fully repaid at any time and the penalty for early repayment;
•whether instalments of principal can be paid without penalty during the loan;
•the lender’s policy about late instalment payments;
•other services available with the loan; and
•whether mortgage loan insurance is required and the premium payable.
You should obtain detailed information about housing loans from at least three lenders and compare the costs, especially the amount of interest and hidden charges. Many lenders use a very low interest rate for a short initial period of the loan in order to attract borrowers. However, you should take out a loan because it is cost-effective for its whole term. The Average Annual Percentage Rate over a set period of five to seven years should be used as a comparison of the real costs of each loan proposal. The lender should be able to quote this rate, if asked.
The lender usually calculates interest on housing loans daily or on a particular day in each month (monthly rests) or, rarely, quarter (quarterly rests). The borrower usually pays principal and interest by corresponding monthly or quarterly instalments. Some lenders allow fortnightly repayments. Usually, the more frequent the rests and the instalments, the cheaper the loan. Repaying the loan by fortnightly instalments in advance (not in arrear) can significantly reduce the cost of the loan. Interest savings can be considerable if you accelerate your repayments.
All lenders determine how much to lend by taking into account:
•the property’s value, position and condition;
•the proportion of the price that the borrower pays (the borrower’s equity);
•the type of title;
•the financial position, age and credit history of the borrower; and
•sometimes, any additional security that the borrower can offer.
The amount lent is based on a valuation, not the price paid. If you need to borrow, you should sign a contract only if it contains a finance clause that ends the contract if the loan is not available and ensures your deposit is returned. This clause can be negotiated where the sale is by private treaty, not by auction. Auction contracts are always drafted by the vendor and do not contain finance clauses, or any other clauses that protect the buyer. A successful sale at auction will result in an unconditional contract.
Mortgages have two principal features: they provide finance for the borrower, and they give security over the property to the lender. If the borrower defaults in repaying the mortgage, the lender can sell the property. If the proceeds of an eventual sale are less than the debt and expenses, the borrower must pay the difference. Terms of loans vary considerably.
This is the typical home loan. It allows the lender to change the interest rate (and your repayments) as the market rates change. Your instalments are calculated to pay off the loan in an agreed period: usually 15 to 30 years. You can increase your repayments or pay out the loan without an excessive penalty.
This allows the lender to charge a fixed rate for a period, usually one to five years. If you want the loan to continue, you must renegotiate the terms. If you want to pay out the loan during the period, the lender will negotiate the terms of the payout and charge a penalty to cover the lost investment opportunity.
The interest on these loans varies according to a stated index. Loans indexed to the consumer price index are sometimes available from the government, but not from ordinary lenders.
This imposes a ceiling on the interest rate. The rate you pay rises and falls with standard interest rates except that it cannot be higher than the nominated capped rate. Lenders sometimes offer capped rates for part of the loan period as an inducement to new borrowers.
These mortgages adjust the instalments, and sometimes the interest, to suit the borrower’s personal circumstances. In a low-start mortgage, the repayments start at a low amount. If the repayments do not cover interest charges, the unpaid interest is added to the principal. Very little principal may be paid off in the early years. In a high-start mortgage, you repay larger repayments of interest and principal early in the loan period. The loans are based on the financial position of the borrowing family (e.g. couples with young children may prefer a low-start mortgage).
These are available from finance companies, credit unions and other lenders. They are short term, and involve very high interest rates. The first mortgage lender must consent to the second mortgage.
These mortgages are a special category where certain lending institutions are prepared to advance money to people in their retirement or aged years. Normally these people would not be eligible for mortgage loans because of their age and retired status. These mortgages allow people to borrow up to a limited percentage of their property’s value (say 15% to 25%) to use for their own purposes. Repayment is often deferred until the house is sold.
Home loan mortgages and guarantees are covered from 1 July 2010, by the National Consumer Credit Protection Act 2009 (Cth). For further information on existing and new national credit laws, see “Main sources of consumer protections under Australian Credit Law” in Understanding credit and finance.
Lenders other than banks may require the borrower to pay the lender’s solicitor’s costs for preparing the mortgage.
Banks lend up to 80% (and more, if you pay for mortgage loan insurance) of the valuation. Their mortgages run from 10 to 30 years. The banks take your income into account and generally restrict the loan so that instalments do not exceed 35% of your income.
There has been a proliferation of these types of operation in recent years, since the housing market and interest rates have become more competitive. Operators aggressively market their home loans and are able to offer very competitive rates and fast loan approvals. The source of funds is often the big insurance and trustee companies. These operators will have the mortgage documentation prepared by a nominated firm of solicitors and all costs and disbursements will be spelled out as part of the transaction costs.
These are discontinued as a home finance source.
Insurance companies provide loans and usually require borrowers to take out life insurance. You should shop around to ensure that the insurance premium is reasonable.
Credit unions provide housing finance to their members and are competitive on rates.
These companies lend on first and second mortgages. You pay higher interest and the loan period is shorter than bank and building society loans.
Solicitors’ trust funds are available from some specialist law firms. They are usually available on a short, fixed term at fixed interest, and require only payments of interest for the duration of the loan. The capital must be repaid at the end of the loan or the loan must be renewed. You must pay your own and the lender’s solicitor’s costs, as well as a valuation fee.
If the loan involves a company or a guarantee, the lender may require some of the parties to obtain a certification from a lawyer that they received independent advice before the loan is made.
This term refers to the shortened procedure for approval of a mortgage loan. Instead of requiring two years income statements and full financial records, proof of capacity to service a loan might be accepted on an accountant’s letter. These loans appeal to self-employed persons whose income is irregular. Caution is recommended, and you should look to see if there is a margin being charged for this express-lane approval process. Also, the Australian Taxation Office has shown an interest in income declarations by self-employed people in these contracts.
There is little consumer protection for mortgage borrowers. The mortgage contracts are contained in the registered mortgage and a memorandum of common provisions, which is a complex document. Mortgages give lenders extensive powers when borrowers default. Be careful to observe all the requirements about payments.
Early repayment: Most mortgages entitle the lender to a charge if the loan is repaid early. Some lenders ask for two months interest, but the trend is to ask for the present value of an alternative investment for the lender.
Mortgage loan insurance: This protects the lender from loss if the borrower defaults and the eventual sale of the land returns less than the amount needed to repay the loan and all the lender’s expenses. It does not protect borrowers, but it assists people who have very little money to buy a home and eliminates the need for a second mortgage or large deposit.
It is, however, expensive, and does not protect your ability to repay the mortgage should you become unemployed. If the loan is over 80% of the value of the property, insurance is usually required by the lender. You must pay the premium in a lump sum when the loan is made. The premium is high (between 0.1% and 1.4% of the amount loaned) and is charged on a sliding scale, depending on the loan to value ratio: the higher the ratio, the higher the premium.
You can obtain personal mortgage insurance from an insurance broker, which will protect you by paying the instalments if you lose your income.
The Equal Opportunity Act 2010 (Vic) covers banking and credit. Lenders are not allowed to use sex or marital status as reasons for refusing or reducing a loan. For more information, see Discrimination and human rights.
The lender attends the settlement of the contract and pays the loan money to the vendor. The lender deducts all expenses of the loan, mortgage loan insurance premiums, stamp duty on the transfer, expenses involved in clearing the seller’s title, lender’s solicitor’s fees, and registration fees on the transfer and mortgage.
The lender takes all the documents and arranges payment of stamp duty and registration of title documents at Land Victoria. The mortgage appears on the title. When the loan is repaid, the borrower is given the title documents and a discharge of mortgage. The discharge should be registered at Land Victoria without delay.
Vendors can provide buyers’ finance in two ways. The first, and safest for borrowers, is by giving the buyer a transfer and taking a mortgage back. The second is by selling on terms. Terms contracts are highly regulated by the Sale of Land Act 1962 (Vic) (“SLA”).
A vendor terms contract is different from the standard cash contract in that the seller allows the buyer to pay the price over a period, usually three to five years. The buyer receives the transfer only when the price is fully paid. Usually, the buyer pays a preliminary deposit of 10% when the contract is signed, and about one-third of the price when possession is given. The remaining balance is paid off on terms agreed in the contract.
As soon as the contract is made, the buyer should lodge a caveat on the seller’s title at Land Victoria, to prevent another person claiming the land, and to give notice of the buyer’s interest in the land. For buyers, there are three disadvantages to these contracts:
1 the land is difficult to resell without completing the terms contract;
2 the buyer who defaults stands to lose much of the investment, because the seller keeps the deposit and resells the property; and
3 the terms generally require the buyer to pay a large amount of capital at the end of the contract. Funds are often difficult to obtain without mortgaging the property (the very thing that the terms buyer wanted to avoid in the first place).
The SLA allows terms buyers to convert their contract into ownership with a mortgage back in favour of the seller. This requires the payment of stamp duty, registration fees on the transfer and mortgage, and legal fees for the mortgage and the settlement. However, a buyer who converts the terms contract becomes the registered owner, and the level of protection of the investment is increased substantially. Terms buyers should always convert their contracts to ownership with a mortgage back to the seller.
Help for home owners who cannot pay
If you are late making a repayment, the lender can charge default interest. Any costs and expenses incurred by the lender because of the default are added to the debt and bear interest.
Defaults can be very expensive to correct since lenders can charge interest on unpaid interest. If you cannot pay your loan instalments, contact your lender and explain the problem, even if it is a short-term one. Lenders provide advice for borrowers who find themselves in difficulties. You and your lender can develop a strategy that keeps losses to a minimum.
Commonwealth Government assistance
The First Home Owners Grant (FHOG) scheme is established under legislation (the First Home Owners Grant Act 2000 (Vic)). Its intention is to offset the effect of the GST on home ownership by providing a grant to first home buyers. It is not means tested, nor restricted by the purchase price. The purchase must be of a new home or a contract to build a new home. The grant is administered in Victoria by the State Revenue Office (SRO) (www.sro.vic.gov.au). To be eligible for the grant, an applicant or spouse must:
•be a natural person, not a company;
•be an Australian citizen or hold permanent resident status;
•not have owned a home before;
•occupy the home as principal residence within 12 months;
•not have received a FHOG before; and
•not have entered into a contract to buy or build, or not commenced construction as an owner/builder, before 1 July 2000.
Application forms are available from the SRO, or via approved agents listed on the FHOG website (at www.firsthome.gov.au). Application can be made to any of these bodies. Supporting documentation is required.
You should contact the SRO to establish if there are additional bonus payments available that are on top of the original grant. Government policy changes on these entitlements and the scheme can be withdrawn or reduced.
A small first mortgage loan at a very low interest rate is available for “eligible persons” to build a home, buy an existing home or unit, or enlarge a home. Eligible persons are restricted generally to members of the Australian Defence Forces who saw active service outside Australia; some other full-time service personnel are included, such as members of approved welfare organisations.
A loan may also be granted to the widow or mother of an eligible person, or to the wife of a mentally ill eligible person. Continuous de facto relationships may be recognised. Applications are made through Westpac Bank, which also administers the loans, and provides top-up finance.
Information can be obtained from the Commonwealth Department of Veterans’ Affairs (see “Contacts”).
The state government may provide schemes for housing assistance. Because government policies change frequently, it is recommended you first enquire about any available schemes.
The state government may also operate a scheme that runs in conjunction with the federal government’s FHOG scheme (see “First Home Owners Grant”). Applications can be downloaded from the SRO website (at www.sro.vic.gov.au).
If you are a first home buyer and comply with criteria then you may receive a FHOG with family exemption or concession and you may qualify for a regional bonus. Stamp duty concenssion are available to eligible home buyers.
The criteria for first home owners and for eligible concession card holders continue to be varied with government announcements from time to time. You need to contact the SRO (see “Contacts”) to confirm your entitlements at any time.