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  • Repaying your home loan: Interest only or principal too?

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    The way that you repay your mortgage matters. A lot. Choosing the wrong type of repayments, setting repayments beyond your means or repaying too slowly could cost you thousands.

    What is right for you will depend on your budget, your intended use of the property and several other important factors. It's always best to seek professional advice if you're unsure, as the right plan could help brighten your financial future considerably.

    To that end we've created a quick summary of the two main repayment methods – purposed to help you begin to decide how you will repay your loan when you buy a home.

    Paying the principal: It matters for owner-occupiers

    A June 2016 Reserve Bank of Australia (RBA) report shows that the majority of loan repayment plans include principal and interest. This is perhaps because it's a more low risk option that doesn't rely on capital gains, rather slowly building equity through sustained repayment of the entirety of a mortgage.

    Repaying your mortgage the right way could be the key to being happy in your home. Repaying your mortgage the right way could be the key to being happy in your home.

    It's extremely important to consider the term of your loan – this will generally be between 15 and 30 years. Too short and your repayments will be larger, you may struggle to make them if unexpected expenses come up. On the other hand if your loan term is to long you'll pay more interest than is necessary. This could be a lot more than you'd expect.

    For an example, let's look at the difference between interest repayments for a $400,000 loan with a 5 per cent interest rate over 20 and 30 years. Repaid over 20 years interest will set you back $233,556 and over 30 years this amount will be 373,024.40. That's a difference of well over $100,000.

    Interest only: Relying on the market

    This year roughly 40 per cent of home loans were interest only.

    With an interest only loan you'll won't touch the principal at all – you'll only pay interest (the name kind of gives that away). This may seem like a bizarre thing to do at first but many property investors employ this strategy – in fact this year roughly 40 per cent of home loans were interest only according to the RBA.

    Repaying only the interest is ideal for those looking to cash in with capital gains while minimising their immediate expenses. With the way the property market is going right now this could be the right option for your investment loan.

    To make sure your loan suits your needs to a tee seek professional advice. The licensed advisors at Mortgageport can help make sure your loan serves you and not the other way around.

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