Types of Loans

 

Table Loans

Most people choose this type of mortgage. Your regular repayments are the same each week, fortnight or month, unless your interest rate changes.

Every repayment includes a combination of interest and principal. At first, your repayments comprise mostly interest but as the amount you still owe begins to decrease, your regular repayment will include less interest and repay more of the principal (the amount you borrowed). Most of your later mortgage repayments go towards paying back the principal.

With a table loan you can choose a fixed rate of interest or a floating interest rate. With most lenders you can select a term (how long you’ll take to repay the loan) of up to 30 years.

For:

  • Table loans can help to keep you on track because they have regular repayments and a set date by which the loan will be paid off. They provide the certainty of knowing what your mortgage repayments will be (unless your mortgage rate changes, in which case repayment amounts can change).

Against:

  • Fixed regular payments might be difficult to make if you have an irregular income.

Interest Only Loans

An interest-only mortgage can be ideal when you need a home loan, but don't want to pay off the principal (the original amount you borrowed) just yet. They're often used for property investment. Some people take an interest-only loan for a year or two and then switch to a table loan.

With this type of mortgage, you don't repay any of the money you've borrowed (principal) until an agreed time – then you repay it all in one sum or you could request to switch to a table loan. In the meantime you make regular interest payments every week, fortnight or month.

For:

  • Because you're not repaying principal, you can free up cash for other purposes, such as renovations.

Against:

  • You pay interest on the full amount you borrowed until an agreed time because you are not paying off any principal – then you still have to repay the loan amount (or you might for example request to switch to a table loan).

Reducing Home Loans

With a reducing balance (non-table) home loan your regular repayments of principal and interest are initially higher than other types of loans, but while your principal repayments remain constant your interest payments will steadily decrease. This type of loan is not used often for housing as the initial costs are higher than a table loan for example.

With a reducing balance (non-table) home loan, you repay the same amount of principal each period and pay the interest as a separate payment. As the amount you owe gets less, so does the amount of interest you pay each time.

For:

  • Over the life of your loan you’ll pay less interest than you would with a table loan. A reducing balance (non-table) home loan can be a good idea if your income is expected to decrease; for example, if you or your partner plan to stop working in a few years time.

Against:

  • Higher initial repayments on a reducing balance (non-table) home loan make this type of loan more expensive in the short / medium term. It may be more affordable for you to make regular payments of the same amount under a table loan.

Revolving Home Loans

A revolving home loan is sometimes called a line of credit or revolving credit mortgage. It's like having a large overdraft. The idea is to help save on interest by keeping the daily balance of your loan as low as possible.

You can do this for example by direct crediting all your income into the account and then paying your bills and everyday expenses from the account as you need to. Revolving home loans have a floating (or variable) interest rate. Some people will mix and match by having some of their borrowing on a fixed interest rate mortgage and some on a revolving home loan.

The interest is calculated on the daily balance of your account, so by keeping the loan as low as you can, for as long as you can, you should pay less interest. You have the option of making lump-sum repayments and if you need the money again, you can redraw up to your limit at any time. Some Banks revolving home loan facilities have a credit limit that steadily decreases to help you stay on track to the day you'll be debt free. As these are also transaction accounts the usual bank fees can apply for things like deposits, withdrawals and setting up an automatic payment.

For:

  • If you're good at controlling your finances you can repay your home loan sooner. If your income is uneven, a revolving home loan may be best for you, because there are no fixed repayments but (depending on the product you select) your limit might reduce each month. You can help save on interest by putting spare money into this account instead of a savings account.

Against:

  • You need self-control. If you keep borrowing up to your credit limit you'll end up paying interest on the full loan amount year after year.

Offsetting Loans (available from most Banks)

Put your cheque and savings accounts to work on your mortgage.

Offsetting mortgages can reduce the amount of interest you pay. They do this by letting you subtract, or offset, for the purposes of calculating interest, your cheque and savings account balances from the amount you still owe on your loan.

This type of mortgage has a floating (or variable) interest rate. Some people will mix and match by having some of their loan on a fixed interest rate and some on an offsetting home loan.

The total amount in your cheque and savings accounts is subtracted off your mortgage before the interest is calculated, which means you only pay interest on the difference.

For example, if you have a variable interest rate home loan of $100,000 and you offset $20,000 of it using your cheque and saving balances, you’ll only pay interest on $80,000 of your mortgage.

For:

  • If you regularly have money in transaction or savings account you can save on interest and pay off your home loan faster and if you are fully offset you can pay no interest.

Against:

  • As the rate is floating it can go higher than fixed term rates and if the interest rate goes up, so will your repayments which could put a squeeze on your budget. Also, if you offset you don't earn credit interest on your savings.

Greater than 80% Loan to Value Ratio (LVR) Loans

When borrowing greater than 80% of your property's value, banks will generally require your loan/s to be on a table or reducing loan basis, or structured in a way that achieves a progressive principal reduction over time. Qualification criteria is generally more stringent with things like additional income surplus required after all outgoings (vs a <80% LVR loan), clear credit checks, little other debt committments (other than student loans) plus borrowers will be expected to carry a full banking relationship with the bank providing the loan.

Fors:

  • Allows access to a higher level of borrowing than is normally available from banks for your home purchase. This means you need less than the standard 20% deposit
  • Residential construction loans are exempt from the Reserve bank of NZ LVR restrictions

Against:

  • For non-construction lending, the banks can only lend a maximum of 10% of new lending on 80% plus LVR loans. This means there is a tight criteria for these loans and very limited supply. Fortunately, if you are building a new house, the 80% LVR restrictions don't apply so funding is more available.
  • All loans over 80% LVR attract an interest loading (called a low equity margin) of between 0.25% and 1.50% and/or a one-off fee (called a low equity fee) of between 0.25% and 2.00% depending on the LVR band i.e. lower rates apply to a 80% - 85% band than a 90% - 95% band.
  • You will generally require a greater income surplus (surplus cash after all outgoings including your loan/s servicing) than for <80% lending. This means that borrowers provide more comfort to the bank that they have greater capacity to deal with adversity given the bank is subject to tighter security margins

Construction Loans

Construction loans essentially start as an interest only loan with a maximum limit that can be drawn as progress payments are required by the builder. Typically, at conception, the loan may only be drawn sufficient to fund your section purchase however the loan 'limit' will be set at a level sufficient to cover your section purchase (if required) plus the amount of your fixed price build contract, or build budget, depending on the nature of your project.

At completion of the build, your loan will be converted to a standard table, interest only, reducing or revolving credit loan or combination of these as required and approved prior to commencement of your build project.

If you are requiring a high LVR loan i.e. greater than 80%, you will require a fixed price contract from a reputable building company. This contract will require all components added in order to deliver what is known as a 'turn key' house at completion. This includes items right down to clothes line, letter box, drives and paths, plus fencing if required by local by-laws or land covenants. You should also have no, or very minor provisional cost sums (known as PC sums - these are provisions for costs in the contract that are not known at the time of confirming the contract however will be confirmed subsequently when prices are known). If you do have any PC sums, they need to be of low combined value and should be assessed as realistically as possible. If anything, err on the higher side to ensure you stay within budget when the actual price is determined. If you have cost overuns, it will be very difficult to obtain additional funding from the bank if you have a 90% LVR loan.

Please also refer to 'Greater than 80% Loan to Value Ratio (LVR) Loans' above for other factors affecting high LVR borrowing.

Turn Key Construction Loans

A turn key construction loan is not a typical construction loan involving progressive drawdowns from your lender as your house is being built. A turn key contract relates to House and Land packages which are marketed as a complete package at a pre-determined price prior to the house being built. The contract is therefore in the form of a standard sale and purchase agreement between you and your builder. You will typically have to pay a 10% deposit at the point of signing the contract with the balance being payable at completion of the build process.

For bank funding purposes, especially at high LVR's, the sale and purchase agreement must provide for the house to be fully completed with code compliance certificate issued and be ready for moving in. Items right down to clothes line, letter box, retaining walls and fences (where required) are to be in place.

If you only have a 5% deposit (and you qualify for a 95% turn key loan), the bank will normally lend you the additional 5% deposit to make up the 10% deposit required for the builder.