Here is a quick snap shot of the differences between each type of home loan – their advantages and disadvantages.
Loan Type | Advantages | Disadvantages |
Fixed rate (principal and interest) loansA loan with a fixed interest rate and fixed loan repayments. Time period varies between 1-5 years. The total length of the loan may be 25 or 30 years, and the fixed rate period may be 3 years. |
• Repayments do not rise with official interest rate • Makes accurate budgeting possible • At the end of the loan period, you may either get another fixed loan at current market rates or convert to a variable interest rate for its remaining duration |
• Early loan payout is penalised • Repayments do not fall with official interest rate • Additional payments are limited |
Interest-only home loansDuring the term of the loan, only the interest on the principal is repaid. Principal and Interest are paid over the remaining loan term. |
• Repayments are lower than standard principal and interest loans • Lower repayments mean that your funds may be allocated elsewhere, like your principal place of residence • The cost of buying a residential investment property in the short-term is cut |
• Repayments will increase abruptly at the end of the Interest Only period • Lenders will assess your ability to repay the loan only on the principal and interest repayments, reducing your borrowing power |
Introductory loanOffers a low interest rate (or honeymoon rate) initially, usually for about 12 months. At the end of the low interest period, rates usually revert to the standard rate. |
• Ideal for borrowers who are initially low on budget • Rates may be fixed or capped • The principal can be reduced quickly with payments at the introductory rate • An offset account against these loans may be provided, depending on the lender |
• Payments increase after honeymoon period |
Line of credit loansAllows access to funds in times of need and revolves around equity built up in your property. Cash is provided up to a pre-arranged limit and, on a monthly basis, the loan account balance is reduced based on cash coming in and increased by the amount of cash withdrawn or paid on the credit card. |
• Lower home loan interest rates, usually • A flexible option |
• Typically higher interest rates, compounded by a monthly interest-only payment as a minimum • Can potentially reduce equity in your residential property • Requires discipline • Can be very expensive if the balance of the line of credit is not regularly reduced. |
Low-doc loansAllow for fully serviceable loan options and redraws, and requires only minimal supporting documents. |
• No tax returns or financial reports are required; all that you need is an income declaration form • Ideal for self-employed borrowers or investors for refinancing, purchasing or renovating purposes |
• Higher interest rate |
Non-conforming loanA loan offered by lenders who are less strict about borrower’s previous credit issues. |
• Ideal for people with poor credit ratings | • Larger deposit and higher interest rate than traditional loans • Lenders typically require evidence of your ability to pay the loan |
Split rate (principal and interest) loansA loan that is part fixed and part variable. |
• Allows for more accurate budgeting than a full variable loan • Additional payments on variable portion are possible • Eases concerns about rising rates |
• Repayments will rise when official interest rates rise • Limited additional payments |
Variable (principal and interest) loansInterest rates for variable loans closely follow upward or downward movements in official interest rates (i.e. as set by the Reserve Bank). |
• Basic variable loans are ideal for paying off a consistent amount over the full loan term. • Standard variable loans come with additional features and more flexibility; ideal for paying off mortgage quickly by eliminating the penalty for advanced payouts. • Repayments are lowered when official interest rates fall |
• Repayments will rise when official interest rates rise. • Basic variable loans are not ideal for quickly paying off mortgage. • Basic variable loans have fewer loan features than standard variable loans. |