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How long should my home loan be?
The longer your repayment term the more interest you pay. Work out how long your mortgage needs to be.
The longer the term is, the lower your monthly repayments will be, but the more interest you'll end up paying over the life of your loan. A few years can make a significant difference in the overall cost of your home loan.
Length of mortgage comparison
Generally speaking, home loan terms can include 10, 15, 25, 30 or even 40 year loan terms. 25 and 30 year loan terms are the most common, with 10 and 15 year loan terms generally being confined to interest-only repayments and 40 year loan terms only offered by a small number of lenders.
Taking out a 30 year loan term instead of a 25 year loan term will mean you have lower monthly repayments, but you will end up paying more interest over the life of the loan. Most borrowers choose 30-year loan terms for this reason.
25 year home loan vs 30 year home loan
A 5 year difference may not seem like a lot, but it can make a big difference:
| Loan details | 25 Years | 30 Years |
|---|---|---|
| Loan amount | $300,000 | $300,000 |
| Interest rate | 6.70% p.a. | 6.70% p.a. |
| Monthly repayment* | $2,063 | $1,936 |
| Total interest payable | $318,982 | $396,900 |
| Interest saving | $77,918 |
* based on monthly, principal and interest repayments
In this example, the choice of a 25 year home loan length costs the borrower an extra $127 per month compared with a 30 year loan, but it also saves the borrower a staggering $78,000 over the life of the loan.
- Even if you have a longer loan term, you may be able to make additional repayments or make use of repayment strategies which decrease your loan term. Making additional repayments or lump sum payments, or splitting your monthly loan repayment into fortnightly payments can see you pay your loan off in a shorter time period. Be sure to check for early repayment fees though.
Refinancing mistake: refinancing to a lower interest rate and not adjusting your loan length
One mistake to avoid is refinancing to a cheaper interest rate and taking out a new 30 year term. This can erode your refinancing savings, as you can see below.
| - | Original loan | Refinancing after 10 years |
|---|---|---|
| Loan value | $800,000 | $668,037 |
| Loan term | 30 years | 30 years |
| Interest rate | 6% | 5.50% |
| Total principal and interest to pay | $1,726,706 | $1,365,495 (+ the $574,968 already paid during the first 10 years) |
Assuming you didn't refinance again and you stayed on the same interest rate, you'd end up paying $1,940,463 over the life of the loan. That's $361,211 more than you would have paid on the original loan.
* based on monthly, principal and interest repayments
Using an offset account to cut down interest
If you're thinking of taking out a longer loan term to cut down on the monthly repayments, but (understandably) don't love the idea of paying so much more over the life of the loan, you can make use of an offset account.
By adding enough money into your offset account, you'll keep your monthly repayments the same but the payment will go directly to your principal loan amount. This means you could end up repaying your loan back faster than the loan term, thereby cutting down the overall interest paid.
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