With interest rates on the rise, Australian homebuyers are potentially facing multiple rate rises between when they buy a property and reach settlement.
Kerry Cable, Strand Legal and Conveyancing’s Business manager says, “There are several options to help keep home loans stable – the most popular being a rate lock.”
What is a mortgage rate lock?
A mortgage rate lock is when a bank or lender agrees to hold a certain interest rate for an agreed period of time, usually between when the loan is approved and when it settles.
Kerry explains, “If rates go up during this period, the borrower is protected from having to pay the higher rate. If rates go down, the borrower still pays the lower, locked-in rate.”
For example, in August 2022, the cash rate was 1.85 per cent, and now, at the start of October, it’s 2.6 per cent. So the trend is up. In fact, many economists are speculating that there could be numerous cash rate rises before the end of the year.
The cash rate is important because it directly influences the interest rates charged by banks on their variable rate home loans. In other words, if the cash rate rises, so too will mortgage rates.
This is why it can be beneficial for borrowers to lock in their interest rate when they have the opportunity to do so.
Why lock in your rate?
While Kerry explains she’s not a financial or mortgage advisor, she says there are several reasons why some of her clients choose to lock in their mortgage rates. The main one being to protect against potential interest rate rises.
“In Australia, we haven’t experienced rising interest rates for over a decade, so naturally, many of our clients are finding themselves in unfamiliar waters,” says Kerry.
How does a mortgage rate lock work?
When you lock in your interest rate, it stays the same for an agreed amount of time. For example, perhaps you’ve applied for a home loan with a fixed rate of 3 per cent for the next four years. However, with the frequent rate increases, you’re worried they’ll rise again, pushing your fixed rate up from 3 per cent to 3.2 per cent. The consequence of this is potentially thousands more in monthly repayments over the next four years.
By negotiating a rate lock with your lender when you first apply for your home loan, you’re guaranteeing that the interest rate will stay at 3 per cent. So, if rates do rise to 3.2 per cent, you won’t be affected because your rate is locked in at 3 per cent.
What are the disadvantages?
Before you lock in a mortgage rate, here are five things to consider.
You might end up paying more
Should rates drop over the lock-in term, you could potentially be paying a higher interest rate than those who don’t have a rate lock.
Lenders charge for the service
Most lenders will charge a fee to lock in your mortgage rate, and this is often non-refundable. The fee charged by lenders is generally 0.15 to 0.20 per cent of the loan amount.
You might not be able to make extra repayments
If you have a rate lock on your home loan, you might not be able to make additional repayments or redraw from your loan without paying a fee. This is important to consider because it could limit your ability to pay off your loan sooner.
You might not be able to refinance
With a rate lock, you might not be able to refinance your loan during the lock-in period without paying a break fee. If you think you might want to refinance down the track, this is something to keep in mind.
The lock-in period might not be long enough
The lock-in period offered by your lender might not be long enough to cover the full term of your home loan. This means that after the lock-in period expires, your interest rate could potentially rise.
Importantly, a rate lock is not always available to all customers. “It really comes down to the individual bank or lender and their appetite for risk,” says Kerry.
Should you fix your rate now?
Kerry says, ‘the decision of whether or not to fix your interest rate is a personal one and depends on many factors. But if you’re considering locking in your interest rate, it’s important to speak to your mortgage broker or lender.”
In summary, a mortgage rate lock can offer peace of mind to borrowers who are worried about potential interest rate rises. While there are some disadvantages to locking in a rate, such as potentially paying a higher interest rate should the rates drop, the advantages may outweigh the risks for some borrowers. Either way, it’s important to speak to your mortgage broker or banker to see if a rate lock is an option for you.