Debt Management

In the hope of saving money we’re willing to haggle over the price of a car, drive to another supermarket to get a better deal or maintain an eye out for seasonal sales, waiting to swoop on a bargain.

Going to amazing lengths to save relatively small amounts of money on a wide variety of consumer items seems to makes sense – it’s always worthwhile trying to cut costs. However, when it comes to saving money on mortgages – one of our largest ongoing expenses – New Zealanders appear unwilling to review their arrangements. So why are New Zealanders reluctant to alter mortgages, and what should you consider before you change.

Arrange Debt facility for say $100,000.00
Never use more than 80% of that $100,000.00 i.e. $80,000.00 for property investment
This leaves a margin of 20% or $20,000.00 for the unexpected

Expected Normal Year Investment Income $6,400.00; Interest $5,400.00
Annual Estimated Surplus $1,000.00 (net additional taxable income)

As investor reduces the 80% to 50%*, we then seek to use the 30% i.e. $30,000.00 to draw down for further investment
Expected Normal Year Investment Income $8,800.00; Interest $5,400.00
Annual Estimated Surplus $3,400.00 (net additional taxable income)

As investor reduces the 80% to 50%*, we then seek to use the 30% i.e. $30,000.00 to draw down for further investment

Expected Normal Year Investment Income $11,200.00; Interest $5,400.00
Annual Estimated Surplus $5,800.00 (net additional taxable income)

* using normal savings (cashflow surplus) ability, over period of months or years dependent upon cashflows surpluses
* Investing Income Rate – 8% per annum, interest cost rate – 7% per annum.

Forgetting about it can cost you money

A recent survey of 300 people in six metropolitan centres, conducted by Colmar Brunton for AMP Banking, found that most New Zealanders prefer a hands-off approach when it comes to mortgage management. Only 4 per cent of respondents actually reviewed their mortgage regularly despite nearly 40 per cent agreeing they could save themselves money with a review. Eighty-one per cent of respondents stayed with the simplest of mortgage arrangements – solely on either a fixed or floating rate. Survey respondents identified a variety of reasons for not restructuring their mortgages:

• A belief that it would cost too much money
• Concern that it would take too much time and effort
• Insufficient income to restructure No desire to change or satisfaction with current arrangements
• Content to remain on a fixed mortgage. The survey discovered that most people only reviewed their mortgage when triggered by large events such as significant interest rate changes, or when buying or selling a property. This is despite the fact that quite simple adjustments, such as increasing the level of repayment or increasing the frequency of payments from monthly to fortnightly, can save hundreds or thousands of dollars over the term of the mortgage.

If I’m thinking about changing my mortgage, what should I consider?

If you have a fixed or capped interest rate and haven’t thought about the structure of your mortgage for a while, the end of your interest rate period can provide an ideal opportunity to review your overall financial position. It’s a chance to consider if your circumstances have changed, set some financial goals and try to determine if there is a better way to arrange your mortgage.

As with so many aspects of personal finance it’s true that no one size fits all. Your situation is yours and any decision about restructuring your mortgage must take account of your particular circumstances.

A decision to switch between fixed and floating interest involves a new risk. Historically, floating rates generally remain higher than fixed rates but it is possible for them to fall below fixed rates. Predictions abound about the future course of interest rates, but nothing is definite. Before restructuring your mortgage, consider the following questions:

• How does a change to your mortgage fit with your overall financial plan?
• What type of interest rate do you have – fixed, floating, capped, interest only or a combination – and do you want to change?
• If you alter the terms of the mortgage, are there penalty fees? If so, will you be able to recoup these through restructuring? Is the lender willing to waive fees?
• What is the remaining term of the mortgage?
• Are you repaying as much as you can afford?
• Is it possible to make lump-sum repayments?

Finally, one way of changing the management of your mortgage is to think about it in the same way you might treat the purchase of a car or washing machine: be pro-active, talk to a number of suppliers, shop around and go for the best deal.

Whilst most of us shop around for the lowest interest rate believing this equates to dollars saved the fact is prudent management and targeting a lower amount of interest will often be more profitable.