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Hundreds of thousands of the most vulnerable mortgage borrowers risk being locked into uncompetitive interest rates as falling property values reduce or remove their ability to refinance.
Key points:
- The cheapest variable rates in the market are generally only available to borrowers with more equity in their homes
- Many existing borrowers will be unable to refinance at all without taking out a new lenders mortgage insurance policy because they have less than 20 per cent equity
- A veteran mortgage watcher warns there is "a serviceability crunch coming for a lot of people"
Analysis from RateCity shows almost two-thirds of lenders offer their cheapest mortgage rates to new customers who have a deposit or equity in their property of more than 20 per cent.
Three of the five current lowest-rate variable loans on RateCity's database require a loan-to-value ratio (LVR) of less than 80 per cent, while three of the four major banks reserve their best deals for those borrowing less than 70 per cent of the value of their property.
For those struggling with surging interest rates, refinancing offers one way to limit the rise in mortgage costs.
"They are immense, the cost savings, particularly if you're refinancing to one of the lowest rates in the market," RateCity's research director Sally Tindall told ABC News.
This is particularly true for fixed-rate mortgage borrowers coming off ultra-cheap deals often onto uncompetitive "revert" variable interest rates.
"The last thing you want to do is get stuck on that revert rate," Ms Tindall said.
Mortgage broker Ali Kawser, who operates around Melton in Melbourne's outer western suburbs, is starting to see some of these borrowers coming through his doors.
"We have gone through a fixed-price frenzy from early 2020 to mid-October 2021," he told ABC News.
"Eight out of 10 customers fixed the loans for two years with a rate of 2 per cent or lower, and they have adjusted their monthly expenses and everything around that … and some customers bought a car because their repayment was lower.
"So 10 per cent of the customers are coming back now, but in the coming months, by Easter, it will be a big chunk of customers who will come to us. I would say all of them will come just to get by for the next 24 months. And we have to make a plan for them."
Mr Kawser said one customer had come to him this month after being informed by her lender that her repayments would jump from $2,173 this month under her fixed loan to $3,550 in February once that loan ended.
"Their first comment is, 'We can't pay that much, we need to do something now,'" he said.
"The best thing we can do is go to a lower rate, which will reduce their repayment a little bit."
Borrowers can save tens of thousands by avoiding 'revert' rates
Mr Kawser said the gap between the "revert" rates at the end of fixed loans and the better variable rates available in the market was generally between 0.8 and 1 percentage point at the moment, but it could be even higher.
RateCity analysis shows that, if the RBA's cash rate peaks early this year at 3.85 per cent as predicted by Westpac and ANZ, a borrower who bought in July 2021 and fixed for two years with one of the major banks could expect to go from an interest rate of 1.97 per cent to 7.19 per cent.
However, if that borrower owned more than 30 per cent of their property (that is, they had an LVR of less than 70 per cent), they could expect to refinance to a rate of about 5.6 per cent with the big four banks.
For someone with a $750,000 loan, that would save them more than $25,000 in interest payments over the next two years.
Those savings shrink slightly for those who own between 20 to 30 per cent of the equity in their home, but they can still save about $24,000.
However, the situation is much bleaker for those who own less than a fifth of their home, either because they bought with less than a 20 per cent deposit or because the value of the property has declined since they purchased, reducing their equity.
The big four banks would only offer a much higher rate of 6.43 per cent, dramatically reducing any savings.
There are much more competitive variable rates available to borrowers with less equity at some of the regional and smaller banks, with one advertising a 4.47 per cent rate for those with an LVR up to 90 per cent.
LMI will trap many in 'mortgage prison'
But there is a catch. A borrower with less than 20 per cent equity would most likely be required to pay lenders mortgage insurance (LMI) if they moved bank.
"This is not your insurance, it's insurance to cover the lender that you have to pay for," Ms Tindall explained.
"And so, when you move lenders, it does not come with you.
"If you don't have that all-important 20 per cent equity in your home, then you're going to be asked to pay it again."
LMI does not come cheap. For the customer who took out a $750,000 mortgage in mid-2021 and has an LVR of 90 per cent, RateCity estimated the cost of the new mortgage insurance would be close to $20,000.
"Suddenly they find themselves in what we would call mortgage prison," Ms Tindall explained.
"Because once you do the maths, the cost of the lenders mortgage insurance typically outweighs the benefits of refinancing — although don't rule it out completely, do the maths first."
Mr Kawser said he was already seeing customers in this situation.
"A customer of mine last year bought a property of $570,000 … [the] current valuation is maximum $540,000," he said.
"They have paid over maybe $10,000 or $15,000 in the last 12 months, and it's been wiped off already.
"So we are trying hard to do a refinance, including LMI. So they're going to lose another $7,000 to $8,000 again."
Ms Tindall added that some institutions might not require LMI for high-LVR borrowers in certain circumstances, but this was fairly rare.
"There are a number of lenders, a small handful of lenders, that do offer LMI waivers," she said.
"They're typically for first home buyers, though, so refinancers wouldn't necessarily get those waivers.
"They do sometimes offer them to certain professions as well. So you might have luck there, but it's going to be hard to find."
'The window might be closing on refinancing'
As property prices continue to fall, many home owners are seeing their equity evaporate, just as longer-term owners saw their equity surge when property values jumped during the pandemic.
Ms Tindall said the ongoing falls in home prices made it urgent for many people to assess their home loan now, before refinancing ceased to become a viable option.
"I would say that the people in that 70 to 80 per cent range are the ones that need to act soon," she told ABC News.
"Those people need to know that the window might be closing on refinancing."
She said for some people that might even mean leaving a cheap fixed-rate loan early while they were still eligible to refinance, because higher rates meant break fees were currently generally low to non-existent.
"Make sure you do the maths correctly and get someone to check it for you as well because you'd be voluntarily coming off a very low fixed rate and then paying a significantly higher one," Ms Tindall noted.
"A good port of call is a trusted mortgage broker. Absolutely get some independent financial advice in addition to that, if you can.
"The national debt helpline is also a fantastic place to go to because they can put people in touch with a free financial counsellor."
For those who do own more than 30 or 40 per cent of the value of their property, Ms Tindall said there were good deals available.
"They're in the driver's seat when it comes to rates," she observed.
"They are a hot commodity in the eyes of the bank. They should use that to their advantage by at least haggling, but particularly by refinancing."
Dozens of banks — big, small and medium — are also offering cashback offers of between $1,500 to $4,000, particularly targeted towards refinancers.
However, Ms Tindall said borrowers needed to consider the long-term costs of these offers if they came with higher interest rates and fees, rather than just the short-term benefit.
"Someone that's refinancing every year, potentially every year and a half, and jumping from those cash-back to cash-back deals can actually make it worth it," she added.
A different path to 'mortgage prison'
However, refinancing may also be out of the question for some people who do hold more than 20 per cent of equity in their home.
"Some people who passed the test with flying colours two years ago might struggle to pass the test today because they will be stress testing the loan at today's interest rates, which are 3 percentage points higher, or thereabouts, from where they were the last time you applied for a loan," Ms Tindall warned.
"Add on to that the fact that the cost of living has increased significantly … So, if you haven't had a decent pay rise in the last two years or so, you might find you don't pass that serviceability test."
Graham Andersen, a financial tech consultant with decades of experience in the Australian mortgage market, people becoming mortgage prisoners will be one of the big issues of 2023.
"Refinancing outside of their bank is probably going to be almost impossible [for many borrowers]," he told ABC News.
"There's a serviceability crunch coming for a lot of people."
However, Ms Tindall said that all hope was not lost for those on uncompetitive mortgage rates who found they would not be able to refinance.
"Now's a perfect time to pick up the phone and ask your lender for a rate cut. They do not need to know your equity position," she said.
"When you pick up the phone, just put on your best poker face and start negotiating with them and don't let them know that they're the only ones that you're negotiating with.
"You can look at what new customers are getting versus what you are getting as a rate, and that can be great ammunition to have those discussions."
What if you simply cannot afford your loan anymore?
Ms Tindall said for borrowers who believed they could not continue to afford their mortgage, even on one of the lower variable rates in the market, now was also the time to start acting.
"If you know you can't make the monthly mortgage repayments, put up your hand as soon as practically possible and start talking to your bank," she said.
"They do not want to see you default on your mortgage any more than you want to default on your mortgage.
"It's not helpful to them, it's not helpful to you. So they will work with you."
The Consumer Action Law Centre's Gerard Brody agreed that their financial institution was generally the best port of call for those genuinely struggling, or about to struggle, to meet their mortgage repayments.
"There are a range of hardship options that banks should be offering," he told ABC News.
"One of them is to ensure that people are paying an effective fair rate, and making sure they're not on the highest-cost product that that bank offers."
Mr Kawser said he was having some success with his clients contacting banks to ask for a better rate.
"What I'm seeing is the banks are more reactive, I wouldn't say proactive," he said.
"So as soon as we request or we advise the customer to make a phone call to the lenders, it goes to the customer service department, and they try to put the customer in the lowest rate possible."
Mr Brody also suggested seeking help from a qualified, independent financial counsellor, such as through the National Debt Helpline.
"We see people make poor decisions like going off and getting further credits or further high-cost credit and that can just make things more difficult in the longer term," he said.
"Speaking to a financial counsellor, you'll get a really clear view of the options available to you around all your budget, which might then help address those mortgage repayments and keep you under your roof."
Ms Tindall agreed that getting advice from outside your financial institution was a good idea.
"It is always worth getting independent financial advice at that point as well, just in case they (the bank) are not looking at all the options that there might be," she said.
"You might then ultimately come to the decision that it's not viable, and that you decide to sell the property."
Mr Brody said in some more extreme cases borrowers might have legal options available to them to challenge their debts.
"People should know that there are legal rights that apply," he said.
"For people that have gone into mortgages, recently in particular, I'd be really asking questions about whether the loan was lent responsibly in the first place."
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