Fixed rate loans If you’re at risk of negative equity or being turned down when your mortgage term ends, it may be worth refinancing now, writes Lucy Dean.

Fixed rate borrowers whose terms are ending within the next 12 months have been urged to assess whether they will be able to refinance at the end of their term or be better off renegotiating their loan today.

Borrowers face their bank’s revert rate when their fixed term ends, but this rate is ‘‘often horribly uncompetitive’’, says RateCity research director Sally Tindall.

Borrowers with less than 20 per cent in equity may also have to pay lenders’ mortgage insurance to refinance, while those in negative equity may be unable to refinance, she warns.

Another challenge is that lenders are required to stress test borrowers’ capacity to pay off their mortgages with an added 3 percentage points, meaning borrowers need to prove they can handle an effective 9 per cent interest rate if they want to refinance.

RateCity analysis finds an average buyer who bought a house in Sydney in July 2021 for $1.3 million with a 20 per cent deposit would have 17 per cent in equity today, with the median price having fallen to $1.2 million. But if the median price falls to $1.1 million in December this year, as per ANZ’s forecasts, they’d have only 11 per cent. The same buyer in Melbourne, purchasing in July 2021 for $957,000, would have 17 per cent equity today, and 12 per cent by December.

But if the Sydney buyer had a 10 per cent deposit in July 2021, they’d have only 6 per cent equity, falling to negative 1 per cent by December. In Melbourne, they’d have 7 per cent today and 1 per cent in December.

‘‘Falling property prices and soaring mortgage rates mean some people could find they can’t refinance when their fixed term wraps up because they’re in mortgage prison,’’ says Tindall.

”If you are on a fixed rate and think you might end up in mortgage prison, do a quick health check on your finances to make sure you’re on solid ground.’’

She says borrowers who owe more than 80 per cent of the value of their property could be in hot water.

Those who owe less than 80 per cent, but are brushing up against that threshold, should ask whether they’d be better off breaking their fixed term early to access the current fixed rates before projected RBA increases push rates higher, or property price falls nudge borrowers into that equity danger zone.

‘‘Owning less than 20 per cent of your property isn’t an automatic sentence to mortgage prison. It just means your new bank might charge you lenders’ mortgage insurance,’’ says Tindall.

‘‘That might be something you’re happy to pay to refinance, particularly if you’re only just a fraction under the required deposit.

‘‘That said, if your equity is close to zero, or in negative territory, you’ll be hard-pressed to find a bank willing to take you on at all.’’

Brendan Dixon, managing director at Pure Finance says it’s a tough time for borrowers, but proactive mortgage-holders can still find decent home loan products via a rate review with their current lender, or refinancing with another institution. This goes for both variable rate and fixed interest borrowers.

Dixon gives the example of a borrower with a fixed rate of 2.5 per cent, with the fixed term ending in June 2023.

The lender currently offers a variable rate of 5.54 per cent for existing customers, as well as a 5.59 per cent three-year fixed rate.

But if the Reserve Bank of Australia were to raise interest rates another three times, that borrower could expect this variable rate to reach 6.29 per cent by the time their fixed loan ends.

So, the borrower has a choice. Keep the existing 2.5 per cent interest rate and revert to a 6.29 per cent variable interest rate, or break their current fixed rate to lock in the 5.59 per cent fixed rate the lender has on offer.

Assuming this borrower has a $750,000 loan, they’d incur $5700 in interest charges by breaking the fixed rate three months early.

But by locking in that 5.59 per cent fixed rate now, rather than potentially 6.29 per cent in June, they’d be paying 0.7 per cent less in interest, and saving $5250 per year.

‘‘This is approximately $15,000 in interest savings over the three years, minus the added interest paid to break the fixed rate early of $5700, meaning a net benefit of $9300,’’ says Dixon.

He’s had a few clients choosing to break their low fixed rate product earlier to fix rates at the current offer, rather than risk a higher rate down the track. ‘‘This was based on perceived longer-term savings.’’

For example, clients Jonathan and Sophia broke their three-year fixed rate of 2.49 per cent in January, before it was due to expire in April. Then, they refixed with the same lender at 4.74 per cent for one year.

They paid additional 2.25 per cent interest from January at a cost of $4286 over three months. However, by fixing at 4.74 per cent rather than 5.45 per cent, they’re saving $5410 over the year, or $1124 after accounting for the $4286 in extra interest.

‘‘All the [interest rate] predictions have changed since January, and in hindsight, maybe they should have fixed longer,’’ says Dixon.

He says borrowers approaching the end of their fixed term should start looking at their options, whether that involves using a mortgage broker or comparison website.

Then they need to start collecting all the information available, including variable and fixed rates at their lender and other rivals, as well the ramifications of breaking their fixed term.

‘‘It’s not quite as easy to work out, but [look at] the cost of re-fixing at today’s fixed rate, versus fixing in say three, four or five months when your fixed rate expires, and working out whether it’s cheaper to lock in a higher interest rate now,’’ he says. SI