What are your options if you can’t afford to increase repayments when your repayment pause ends?

Australians were thrown a financial lifeline in March 2020, when the banks allowed the option of a six-month home loan holiday for people impacted by the economic downturn of COVID-19.

And plenty of us raised our hand to put repayments on hold. Close to 500,000 mortgages, worth a total of $175.6 billion, were in pause mode as at 19 June according to the Australian Banking Association (ABA).

According to Anna Bligh, CEO of the ABA, many homeowners have already chosen to resume their loan repayments. If your budget can handle the cost, it’s worth getting back into the swing of paying off your home loan. Repayments may be on pause but the interest meter isn’t, and the longer you defer repayments, the greater the accumulating interest bill.

Banks enter Phase 2 of support

Homeowners concerned that they won’t be able to kickstart loan repayments when their deferral period is over will be relieved to hear that banks are heading into ‘Phase Two’ of pandemic support.

This will see lenders get in touch with borrowers towards the end of their loan deferral period, and if you’re still facing a reduced income and ongoing financial difficulty due to COVID-19, your bank will offer options to manage your loan. This includes the potential to defer repayments for a further four months.

This next phase of support will provide additional breathing space. However, the ABA has cautioned that customers are expected to work with their lender to find a solution.

Sydney-based mortgage broker James Algar stressed the need for early action, “Borrowers who find themselves in a position where they can’t make repayments should contact their lender as soon as possible – even before the repayment is due. Doing nothing is the worst possible action.”

This makes it worth thinking through the range of options before a lender calls. Let’s take a look at some of the possible solutions and how they stack up.

Switching to interest-only payments

Moving from principal plus interest (P&I) repayments to interest-only will free up extra cash. As a guide, on a $350,000 home loan with an interest rate of 3.0%, you can expect monthly P&I repayments of $1,670. Switch to interest-only, and the payments drop to $885 each month – a difference of $785.

The catch is that you’re not making a dent in the loan balance, and staying on interest-only repayments for just 12 months, can add an extra $3,988 to the long-term interest cost of your loan.

Extending the loan term

Opting for a longer term will also lower your regular payments. Using that same $350,000 home loan as an example, drawing out the term for an extra five years – from, say, 25 to 30 years, can push your monthly repayments down from $1,660 to $1,476. That’s $184 less you have to come up with each month.

The catch is that this can push up the overall interest cost from $147,922 to $181,221. So, for a small monthly saving you could end up paying an additional $33,299 in interest by the time the debt is paid off.

Switching to a fixed rate

Fixed interest rates are typically lower than variable rates right now, and choosing to lock in your rate could shave a few dollars off your regular repayments.

Greater Bank for example has a one-year fixed rate of 2.09%, while its variable rate is 2.99%. Based on these numbers, moving a $350,000 loan from a variable to a fixed rate could see the monthly repayments drop from $1,658 to $1,499 – a saving of $159.

The comparison tables below display some of the fixed rate home loan products on Canstar’s database with links to lenders’ websites, for refinancing owner-occupiers in NSW making principal and interest repayments on a loan of $350,000 with an 80% LVR. Choose between the 1-year fixed, 3-year fixed and 5-year fixed tabs to view results most relevant to you. The results are sorted by ‘current rate’ (lowest to highest), then by company name (alphabetically). Before committing to a particular home loan product, check upfront with your lender and read the applicable loan documentation to confirm whether the terms of the loan meet your needs and repayment capacity. Use Canstar’s home loan selector to view a wider range of home loan products.

• 1-year fixed
• 3-year fixed
• 5-year fixed

Consolidating debt

If you have other debts outstanding such as personal loans or credit cards and you have sufficient home equity, you may be able to consolidate several debts into your home loan. This can help to reduce your total monthly repayments.

The downside is that if your newly enlarged home loan adds up to more than 80% of your home’s market value, you may be asked to pay lenders mortgage insurance, and that’s a cost that can wipe out any savings on repayments.

Is refinancing an option?

Banks are required, by law, to follow responsible lending guidelines, and as Mr Algar pointed out, if you opted to take a repayment holiday during COVID-19 you are effectively telling your lender that you are experiencing financial hardship. For a new lender to extend a loan under these conditions is likely to be a breach of responsible lending rules.

“To be eligible to refinance, homeowners who requested a repayment pause, need to show that any period of uncertainty is behind them – usually by making two to three months of regular loan repayments,” Mr Algar explained.

Extending the deferral period

According to the ABA, if arrangements to get back on track with your loan are not in place at the end of your six-month deferral, you may be eligible to extend the deferral for up to four months. But an extension will not be automatic. The ABA said it will be provided to “those who genuinely need some extra time”.

Regulator APRA has noted that lenders are expected to assess a homeowner’s credit situation to determine if an extension of time is appropriate. Put simply, that means the bank is going to need convincing that your income will see an uptick within at least four months. That may mean providing evidence of a second job, or working additional casual hours. “The situation varies according to each homeowner’s individual circumstances. What matters is that you get in touch with your lender to work out a solution based on your personal situation,” noted Glenn Haslam, Executive General Manager, Lending at Suncorp.

Will the bank repossess your home?

All banks have financial hardship teams that will work with you to help you hold onto your home. The critical thing is to keep making some sort of loan repayments while you reach out to your lender.

Missing repayments can mean receiving a default notice from your lender. This can take up to 90 days from the date of the missed payment according to MoneySmart. However, the Financial Rights Legal Centre (FRLC) warns that lenders work to a timetable to begin court proceedings and this process may be difficult to stop once it has started.

Should you sell before the bank jumps in?

If there is no sign of your income picking up over the next few months and you’re facing serious financial stress, the last resort may be to sell your home.

The FLRC advises that it’s worth making this decision early because you’re likely to get a better price – with lower legal costs – than if the lender sells the place for you. It’s not an easy decision to make, but setting a realistic price to secure a timely sale, could be a way out of a deeply stressful situation.

About Nicola Field

Nicola Field is a personal finance writer with nearly two decades of industry experience. A former chartered accountant with a Master of Education degree, Nicola has contributed to several popular magazines including the Australian Women’s Weekly, Money and Real Living. She has authored several best-selling family-focused finance books including Baby or Bust (Wiley) and Investing in Your Child’s Future (Wiley).

Main image source: Impact Photography (Shutterstock)