According to the
ABS, the number of people refinancing their mortgage increased by over 63% in the year to May 2020. Quite often people think the only reason to refinance is to obtain a lower interest rate. However, this thinking is incorrect. Typically, you don’t need to refinance to obtain a lower interest rate (more about this below). As an experienced investor myself, I can tell you that there are far more important reasons to refinance your loans.
What is a refinance?
This might sound like a basic question. However, there are two types of refinances; internal and external. A refinance essentially involves entering into a new loan agreement. You can do that with your existing lender/bank, and this is called an internal refinance. Alternatively, you can switch to a new lender and this is called an external refinance. This distinction is important for my discussion below.
The first two reasons are the most important
Over the past 20 years, the primary motives for refinancing my personal mortgages were because of the first two reasons below. I’ll share why later in this blog.
Reason # 1: restructure your loans
Your loan structure can have a big impact on your cash flow and ability to invest. Restructuring your loan repayments, how loans are secured, loan terms and so on can provide substantial financial benefits. Here are a few examples:
Resetting your interest only term
As I explained in a
blog last year, interest only terms typically run for 5 years only. Once that initial 5-year term expires, most (but not all) lenders allow borrowers to rollover onto an additional 5-year term. However, once you have used two 5-year terms, the only way to get another is to complete an external refinance, and switch to a new lender.
Resetting your loan term to 30 years
Almost all loan contracts are based on a 30-year loan term. If you elect to repay interest only, then your 30-year term will be split into two parts; one 5-year interest only term and the remaining 25-years on principal and interest (P&I) repayments. Therefore, if you use two 5-year interest terms (a second interest only term i
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