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 house with money from:
• personal savings;
• proceeds from the sale of a house;
• a mortgage;
• vendor finance; and/or
• government assistance.
If the sale involves a real estate 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 document.
A sensible place to keep your savings is with the financial institution that you intend to apply to for a home loan.
Selling first and buying second is more sensible: your financial position is clearer, and you can take as long as you like to find 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.
Alternatively, you can have the sale and purchase settlements occur simultaneously. In this case, the sale proceeds can be used immediately for the purchase settlement. However, if the sale settlement is delayed, the purchase settlement will automatically fail.
If you buy before you sell, or the sale and purchase settlement dates are close to each other (i.e. within a month of each other), it is a good idea for the buyer to investigate the availability and terms of bridging finance to ensure they are not significantly out of pocket during both settlements.
Overview of home loans
Loans for houses are available from first- and second-tier banks, building societies, mortgage providers, 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 cost of establishing the loan, including the valuation fee, the lender’s solicitor’s fee, mortgage establishment fee, and any up-front charges;
• when and how repayments are to be made;
• any administration charges, including the fee for debiting an account or sending a periodic bill;
• other periodic charges;
• the rate of interest and expected fluctuations;
• whether the interest 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 arrears;
• whether extra instalments of the 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 the 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 home loans from 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 to attract borrowers. However, you should take out a loan because it is cost-effective for its whole term. Use the average annual percentage rate over five to seven years to compare the real cost of each loan. The lender should be able to quote this rate, if asked.
The lender usually calculates interest on home loans daily or on a particular day in each month (monthly rests) or, rarely, each quarter (quarterly rests). Usually, the borrower repays the principal loan amount and the interest in corresponding monthly or quarterly instalments. Some lenders allow repayments to be made fortnightly. Usually, the more frequent the rests and the instalments, the cheaper the loan. Repaying the loan by fortnightly instalments in advance (not in arrears) can significantly reduce the cost of the loan. Interest savings can be considerable if you accelerate your repayments.
Lenders decide how much to lend by considering:
• 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 borrower’s financial position, age and credit history; and
• any additional security that the borrower can offer.
The amount lent is based on a valuation, not the purchase price, of the property. If a buyer needs to borrow money to complete settlement, it is in their best interests to sign a contract that has a finance clause. This clause generally ensures the return of all the buyer’s deposit if the loan is not approved.
A finance clause can only 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 results in an unconditional contract.
Mortgages provide finance for the borrower in exchange for security over the property for the lender. If the borrower defaults in repaying the mortgage, the lender can sell the property. If the proceeds of the sale are less than the debt and expenses, the borrower must pay the difference. The terms of home loans vary considerably.
This is the typical home loan. With a variable rate mortgage, the lender can change the interest rate (and repayments) as the market rates change. Instalments are calculated to pay off the loan in an agreed period: usually 15 to 30 years. Repayments can be increased, and the loan can be repaid in full, without an excessive penalty.
With a fixed rate mortgage, the lender charges a fixed interest rate for a period, usually one to five years. If a borrower wants the loan to continue, they must renegotiate the terms. If a borrower wants to repay the loan in full during the loan period, the lender negotiates the terms of the payout and charges a penalty.
The interest on an indexed rate mortgage varies according to a stated index. Loans indexed to the consumer price index are sometimes available from the government, but not from ordinary lenders.
With a capped rate mortgage, the interest rate rises and falls with standard interest rates except that it cannot be higher than the nominated capped rate. Usually lenders offer capped rates for only part of the loan period.
These mortgages adjust the instalments, and sometimes the interest, to suit the borrower’s financial position (e.g. a couple with young children may prefer a low-start mortgage). In a low-start mortgage, the repayments start at a low amount. If the repayments do not cover the interest, the unpaid interest is added to the principal. Very little principal may be paid off in the early years of the loan period. In a high-start mortgage, the borrower repays larger amounts of interest and principal early in the loan period.
Second mortgages are available from lenders such as finance companies and credit unions. They are short term with very high interest rates. The first mortgage lender must consent to the second mortgage.
A reverse mortgage involves a lender advancing money to people who are retired or elderly. A reverse mortgage allows a home owner to borrow a limited percentage of their property’s value (say 15–25 per cent) to use for their own purposes. Repayment of the mortgage is often deferred until the house is sold.
Legislation governing lenders
Since 1 July 2010, home loan mortgages and guarantees are covered by the National Consumer Credit Protection Act 2009 (Cth). For more information about national credit laws, see “Consumer protections under Australian Credit Law” in Understanding credit and finance.
Banks usually lend up to 80 per cent (and more, if the borrower pays for mortgage loan insurance) of the bank’s valuation of the property. Generally, the term of a mortgage is between 10 to 30 years. A bank takes a borrower’s income into account and restricts the loan so that repayments do not exceed 35 per cent of the borrower’s income.
Mortgage brokers aggressively market their home loans and offer very competitive interest rates and fast loan approvals. The source of funds is often big insurance and trustee companies.
These are discontinued as a home finance source.
Insurance companies provide home loans and usually require borrowers to take out life insurance.
Credit unions provide home loans to their members at competitive rates.
Finance companies lend first and second mortgages. A borrower pays a higher interest rate and the loan period is shorter than for home loans from banks.
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 loan period. The capital must be repaid at the end of the loan or the loan must be renewed. Borrowers must pay their own and the lender’s solicitor’s costs, as well as a valuation fee.
The lender attends the settlement of the contract and pays the loan money to the vendor. The lender deducts all the expenses of the loan, the mortgage loan insurance premium, stamp duty, any expenses involved in clearing the vendor’s title, the lender’s solicitor’s fees, and the registration fees on the transfer and mortgage.
The lender pays stamp duty and registers the title documents at Land Use Victoria. The mortgage appears on the title. When the loan is repaid, the borrower is given the title documents and a discharge of mortgage document. As settlement for standard sale and purchase transactions must now occur electronically, the discharge of a mortgage is registered electronically with Land Use Victoria immediately after electronic settlement.
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 charge the borrower a fee if a loan is repaid early. Some lenders charge two months interest, some charge the value of an alternative investment for the lender.
Mortgage loan insurance: This insurance protects the lender from loss if the borrower defaults on the loan and the sale of the property returns less than the amount needed to repay the loan and all the lender’s expenses. Mortgage loan insurance 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 a large deposit.
However, mortgage loan insurance is expensive, and does not protect a borrower’s ability to repay a mortgage if they become unemployed. If a loan is over 80 per cent of the value of the property, the lender usually requires the borrower to take out mortgage loan insurance. A borrower must pay the insurance premium in a lump sum when the loan is made. The premium is high (between 0.1–1.4 per cent 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.
A borrower can obtain personal mortgage insurance from an insurance broker, which protects the borrower by paying the instalments if they lose their income.
The Equal Opportunity Act 2010 (Vic) covers banking and credit. Lenders are not allowed to use a person’s sex or marital status as reasons for refusing or reducing a loan. For more information, see Discrimination and human rights.
A vendor terms contract of sale is different from a cash contract in that the vendor allows the buyer to pay the price of the property over a longer period than usual, usually three to five years. Ownership of the property remains with the vendor until the final payment is made. Usually, the buyer pays a deposit of 10 per cent when the vendor terms contract is signed, and about one-third of the price when they take possession. The balance is paid off on terms agreed in the contract of sale. Vendors terms contracts are regulated by the Sale of Land Act 1962 (Vic) (“SL Act”).
As soon as the contract of sale is made, the buyer should lodge a caveat on the vendor’s title with Land Use Victoria (see “Contacts”) to prevent another person claiming the property, and to give notice of the buyer’s interest in the property.
For buyers, there are three disadvantages to vendor terms contracts of sale:
1 the property is difficult to resell without completing the terms of the contract;
2 the buyer who defaults loses their 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 buyer wanted to avoid in the first place).
The SL Act allows vendor terms buyers to convert their contract into ownership with a mortgage. This requires paying stamp duty, the fees to register the mortgage and transfer the property, and the conveyancing fees. However, a buyer who converts a vendor terms contract becomes the registered owner, and the protection of their investment is increased. Vendor terms buyers should always convert their contracts to ownership with a mortgage.
If a borrower is late making a repayment on a home loan, the lender can charge default interest. Any costs and expenses incurred by the lender because of the default are added to the debt and incur 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. Lenders provide advice for borrowers who find themselves in difficulties. You and your lender can develop a strategy that keeps losses to a minimum.
First-home Owners Grant
The First-home Owners Grant (FHOG) is $10,000 for homes purchased in metropolitan Victoria and $20,000 for homes purchased in regional Victoria.
The FHOG scheme initially applied to the purchase of existing homes. However, for contracts entered into on or after 1 July 2013, eligibility is limited to buyers who are purchasing or building new houses. The grant is only payable where the price of the home, or the price of building the home, does not exceed $750,000.
Eligibility for the FHOG is also based on an applicant or the applicant’s spouse or partner:
• being a natural person, not a company, and over 18 years of age;
• being an Australian citizen or permanent resident;
• not having owned a home in Australia, either jointly or separately;
• living in the home as a principal place of residence for at least 12 continuous months, commencing within 12 months of settlement or the completion of construction;* and
• not having previously received the FHOG.
* Since 27 June 2017, Australian Defence Force (ADF) personnel have been exempt from this residency requirement. This includes current members of the Australian army, air force or navy who are enrolled to vote in Victorian elections and who are on duty or on leave. This exemption does not apply to reservists or to Australian public service staff.
The FHOG is administered by the State Revenue Office (SRO). For the most recent updates on the FHOG, visit the SRO’s website (www.sro.vic.gov.au).
To apply for the FHOG, fill-in the “Application for First-home Owners Grant” form (available at www.sro.vic.gov.au/fhogapply) and supply the required supporting evidence.
First-home buyers may also be eligible for other duty exemptions or concessions.
The Australian Government Department of Veterans’ Affairs administers three home loan subsidy schemes on behalf of the Australian Government Department of Defence. The three schemes are the:
1 Defence Home Ownership Assistance Scheme;
2 Defence Services Homes Scheme;
3 Defence Home Owners Scheme.
These schemes provide loans or subsidies for the purchase, construction or modification of a house.
These schemes are available to veterans, ADF personnel and their dependants. The eligibility criteria for each scheme varies and depends on a qualifying period of ADF service. For specific information about these three schemes, visit www.dva.gov.au/benefits-and-payments/loans-and-insurance.
The purchase of property in Victoria triggers a land transfer duty (also known as stamp duty) liability that is payable to the SRO. The amount of duty payable depends on the property’s “total dutiable value”, which is usually the purchase price.
Depending on the buyer’s circumstances, there may be exemptions and concessions available on the amount of stamp duty payable. For a full list of stamp duty concessions and exemptions, visit www.sro.vic.gov.au/land-transfer-duty. The most common stamp duty concessions and exemptions are the:
• principal place of residence concession;
• first-home buyer duty exemption or concession;
• off-the-plan sales concession;
• pensioner exemption or concession.
A principal place of residence (PPR) stamp duty concession is available if all the below criteria are met:
• the property is new or established;
• the property value is between $130,000– $550,000;
• the buyer intends to move into the property within 12 months of settlement;
• the buyer intends to live at the property as a primary home for at least 12 months.
The concession rate depends on the property’s value. If the property was purchased as a first home with a contract date before 1 July 2017 and the total dutiable value of the property is not more than $600,000, the buyer is eligible for a further 50 per cent stamp duty reduction off the land transfer duty inclusive of the PPR concession.
The maximum PPR concession available is $3,100.
The first-home buyer duty exemption or concession is available for a first-home buyer if all the below criteria are met:
• the property is new or established;
• the property was purchased on or after 1 July 2017;
• the buyer and their spouse or partner satisfy the eligibility requirements for the FHOG (see “First-home Owners Grant”).
If the buyer meets the above criteria:
• and the total dutiable value of the property is $600,000 or less, the duty exception applies;
• and the total dutiable value of the property is more than $600,000 but not more than $750,000, the duty concession applies.
The off-the-plan sales concession only applies to purchases of land and building packages.
This concession allows the buyer to deduct the land transfer duty assessable on the cost of constructing their home from the total assessable land transfer duty on the contract purchase price. This means that the land transfer duty is only paid on the improved value of the land that occurred on or after the contract date, and not on the buildings previously constructed on that land.
Since 1 July 2018, this concession is only available to buyers who intend to use the property as their principal place of residence.
A buyer who is of pensionable age can receive a one-off duty exemption or concession when they purchase a new or established home, with a maximum value of $750,000.
This exemption or concession is also available where there are multiple buyers who are purchasing a property jointly and only one of the buyers is of pensionable age.
A buyer is eligible for this exemption or concession if they:
• hold a relevant concession card* on the property settlement date; and
• have never before received a pensioner exemption or concession in Victoria; and
• are buying the property for market value; and
• intend to use the property as their principal place of residence.
* For a list of eligible concession cards, visit www.sro.vic.gov.au/node/1398.
Note that if a pensioner buyer is eligible for the FHOG, they must choose to receive either the FHOG or the pensioner exemption or concession.
The criteria for first-home owners and eligible concession card holders continue to be varied.
Contact the SRO (see “Contacts”) to confirm your entitlements.