How To Manage Your Finances Through Interest Rate Increases

Recent interest rate increases have underscored the importance of forward planning in managing one’s finances.

In April the RBA has raised interest rates again by 0.25%, with more interest rate rises to follow, according to the Australian economists. For individuals with significant debt or mortgage amounts outstanding, the additional strain of repayment is palpable.

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To ensure you do not get trapped in a circle of interest rate rises we have prepared this brief guide of how best to manage your finances during times like these.

What type of mortgage?

When taking out a new mortgage you have to decide whether it should be of variable or fixed interest rate. Many people choose variable rates when prevailing interest rates are low, thinking they can switch to fixed rates when interest rate increases.

But most often it is too late to switch to fixed rates, by the time interest rates have increased the banks have adjusted their fixed rates in anticipation of a rate rise. Individuals who prefer the extra bit of security a fixed rate offers tend to select fixed rate mortgages.

But fixed rate mortgages have their own shortcomings. Almost all fixed rate mortgages will place extra restrictions on repayments, and will penalise early repayments beyond the schedule.

A split mortgage might be the solution for those looking to balance the two aspects. The variable part of the split loan would offer a bit of flexibility, while the fixed part would provide security.

Repayment tactics

If you can afford it, make greater repayments than necessary. A higher than scheduled repayment, especially when it’s made early in the life of the debt, can make a big difference in the total interest amount paid. On top of that it will help insulate you from the negative effects of future interest rate rises.

Here are two particular repayment strategies that will help make early repayments easily:

• Instead of paying monthly, take the same monthly repayment amount and pay half of that every fortnight. Since there are 26 fortnights to a year, this equates to 13 months’ worth of repayment in 12 months time. By simply paying fortnightly you can make an extra monthly repayment every year.
• Pretend your interest rate was 0.5% higher, and pay the extra amount if you can afford it. The following table shows how much to add onto your existing repayments if you paid 0.5% higher interest rate than what is applicable to you.

There are other ways to save money on interest, such as keeping your savings in an offset account. Mortgage offset accounts are offered by many banks as a savings account with some additional withdrawal restrictions. Any interest you can save through proper utilisation of such an account will provide you with additional protection from future interest rate increases.

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