The certainty of repayments is a major attraction of fixed rate home loans. Fixing your loan ensures you know much to repay each month and for how many years. But what happens when you want a break from all this certainty? That’s when break fees come into play.
What are break costs?
Break costs are fees charged by lenders when you break the term of your home loan contract. They often apply in these situations:
- Making a repayment higher than the amount allowed in the home loan agreement – you might have received an inheritance payout or a salary increase
- Paying off the fixed rate loan early – you might have to sell the property due to a change in circumstance
- Defaulting on the loan
- Refinancing to another loan type or lender.
Sometimes lenders refer to break costs by different names such as early repayment adjustment fees. Just because you can’t see the term ‘break fees’, doesn’t mean they don’t exist.
How much are break costs?
Break costs are calculated based on movements in the rates at which banks fund your fixed rate loan – known as Wholesale Market Interest Rates. These rates change daily, and the changes can be significant. Thus, the break cost amount applicable on your loan may differ from one business day to the next.
Although the formula for calculating break fees varies from lender to lender, factors used in the calculations often include:
- The length of time that remains on your fixed term
- The amount of any excess payments
- How your fixed term interest rate compares to the current market interest rate.
Regardless of break fee calculations, you will find them to be a significant cost. If you’re considering refinancing to a variable term to take advantage of a low-interest rate, the break fees may well be in the thousands of dollars.
Refer to your loan contract for details of your lender’s break fees. If your contract doesn’t disclose these fee calculations, speak to your Yellow Brick Road mortgage representative for specific advice tailored to your situation.
Can I avoid break costs?
Break costs are an unavoidable feature of fixed rate loans, but there are ways to lessen their sting.
Look for fixed rate loan products that allow for extra additional repayments. Some lenders permit you to pay an additional $5,000 or even up to $10,000 a year.
If you decide to up your repayments above the scheduled amount, keep an eye out for when you are approaching the annual limit. Not all lenders will inform you that your next repayment will take you over the limit – and just charge you the break fee.
While it’s impossible to predict what’s around the corner, it pays to give careful thought to the future before taking on a fixed rate loan. Consider whether there’s any possibility of changes in your life in the next few years that may prompt a need to sell your property. Maybe there’s a chance of an overseas or interstate job posting? Might you be planning to start a family and need a bigger home? The relationship with your partner might be shaky, with the possibility of it ending in divorce and selling your home?
Any savings you make by fixing your loan may well be swallowed up by break costs when you sell your home and pay off your mortgage ahead of the contract term.
If you’re considering prepaying all or part of your fixed rate loan, your Yellow Brick Road mortgage adviser will review your options and talk you through the break fees you can expect to pay.