An interest-in-advance home loan is one that lets you pay a chunk of your interest charges upfront.
It's sometimes offered as a benefit on certain loans, but a couple of lenders have specific fixed rate interest in advance loans.
This option is really only available to property investors, and you can sometimes get a rate discount too.
How does a fixed rate interest in advance home loan work?
Some lenders let investors prepay some of their investment loan's interest rate. This is only an option at the start of the loan or if you're fixing your interest rate, at the start of the fixed term.
You might be able to pay 12 months' worth of interest in advance, but it varies by lender.
Lenders offer this as an option on investment loans. But Westpac and NAB have specific interest in advance loans.
Westpac lets investors pay 12 months of interest in advance and offers a 0.20% rate discount if you do.
What are the benefits of paying interest in advance?
Investors might benefit from pre-paying loan interest because:
It can help with cashflow. Investors may find it easier to simply pay interest once in a lump sum. This could be a timely way to make use of cash that you have on hand at a given time too.
It can have tax benefits. Prepaying interest allows you to minimise your taxable income in a given year. This can be helpful in a year where you've earned more than you normally do. It's best to talk to an accountant about loans and tax minimisation strategies.
You can lock in your rate. If you think interest rates are going to increase soon, paying a year's worth of interest in advance effectively locks in a saving.
Rate discounts
Some lenders also offer discounted interest rates to borrowers who pay their interest in advance as an incentive. For example, Westpac offers a 0.20% p.a. discount for interest only in advance home loans.
On an investment loan of $600,000, this discount is worth $1,200 per year.
Note that this type of arrangement is only allowed on:
Fixed rate loans, not variable rate loans (as these can change, so it's impossible to calculate the interest in advance).
There are 70 interest in advance home loan rates in Finder's database. These loans are all fixed rate loans for investors with interest-only repayments. Other lenders may offer an interest in advance option on their standard investment loans rather than as separate loan products
Source:Finder's home loan database
How to compare fixed rate interest in advance home loans
Interest rate. Look for loans that offer interest rate discounts to borrowers who do this. Keep in mind that the advertised rate will not take into account the fees the home loan will charge, so add this to your comparison.
Fixed rate period. The fixed rate period a home loan attracts usually varies between 1 and 5 years, although fixed terms can go as long as 10 years. At the end of this period, the loan starts attracting a standard variable rate unless you choose another fixed period.
Interest-only period. These types of repayments generally only last for up to 5 years with each lender, as they want you to start making payments on the principal eventually.
Features. Fixed rate loans usually don't allow extra repayments beyond around $10,000-15,000 a year (without charging a penalty), and very few fixed rate loans come with linked offset accounts. If these features are important to you, this might not be your best option.
Repayment flexibility. When you pay the interest that your home loan attracts in advance, you have little in terms of repayment flexibility, because you make a lump sum payment on your interest.
What happens if you wish to sell or refinance?
As with other fixed rate loans, if you repay the loan early for any reason (including refinancing and selling the property), you may have to pay break fees.
Also, you should be able to get a refund on some of the interest that you have pre-paid, pro-rata based on the period of the loan that you repay early.
Pros and cons of a fixed rate interest in advance home loan
Pros
Save on interest. If you get a home loan that allows you to make interest repayments in advance, you can usually look forward to a discounted interest rate, and this enables you to save how much you pay in the form of interest.
Make lump sum payments. Because these loans are generally interest-only home loans, you don't have to worry about making weekly, fortnightly, or monthly repayments. You simply make one payment to pay your interest costs for the year.
Decide if you wish to continue. When the first year comes to a close, you get to choose if you want to continue with the same for the next year, and you get to do this until the fixed rate period or interest-only period comes to a close as well.
Cons
Not many features. Most loans that give you the ability to make advance repayments of interest fall short on offering other features. As a result, if you're looking for such a loan, but want a range of features as well, you might find it very hard to find a suitable alternative.
Inflexible loan type. This only applies on interest-only, fixed rate investment loans, so it suits a very specific type of borrower.
Frequently asked questions
Paying interest in advance can reduce your overall interest rate, potentially saving you money over the life of the loan, and may offer tax benefits if applicable.
Typically, yes, but you should check your loan terms as some lenders may have restrictions or penalties for extra repayments during the fixed rate period.
Exiting a fixed rate interest in advance loan early may incur break fees or penalties, as the lender will have anticipated earning interest for the full fixed period.
Sources
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To make sure you get accurate and helpful information, this guide has been edited by
Joelle Grubb
as part of our
fact-checking process.
Sarah is the author of How to Raise Rich Kids. With over 20 years of experience in property, finance and investment journalism, she is a trusted expert whose insights regularly appear across television, radio and print media, including Sunrise, Channel 7 News, Bloomberg and Yahoo! Finance. She has previously served as managing editor for Your Investment Property and Australian Broker. Her expert advice has been shared in the media over 4,000 times. Sarah holds a Bachelor’s degree in Communications and a Tier 1 Generic Knowledge certification, which complies with ASIC standards.
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