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Marty McDonald - Friday, May 06, 2016
Many families will experience a period of reduced income. This is for reasons such as maternity leave, long service leave and extended holidays. A savvy home owner plans ahead to ensure they can continue to make mortgage repayments without a cash flow crisis! Being informed about your options rather then just winging it is the answer. In my latest blog I discuss practical ways to get through these times.
Get set up before the reduced income period! Top Up now.
For many families there are a number of months leading into a reduced income period. In these months a savvy home owner is setting up strategies to ensure they will be able to pay their bills including the mortgage during their reduced income period. A home loan top-up is one strategy that could see you through this period. A Home loan Top-up allows you to access the equity in your property and borrow additional funds. You can then use this to help continue meeting your mortgage payment during a period of singular income. This is much cheaper than other types of borrowing because of the low interest rate compared to credit cards and personal loans.
Now it must be said that this is is of course an unsustainable way of making your repayments for a long period but for a short period and as a one off it could be a viable option for you and much easier than trying to borrow money when your income is reduced. The amount you can borrow varies depending on your financial situation and your loan to value ratio.
Using redraw facilities to reduce loan repayments
If you make additional payments into your home loan above the minimum repayment schedule some home loans give you the option to redraw those funds. These funds can then be used to tide you over in your period of reduced income. For example, if your home loan repayment is $2000 a month and you’ve been paying $2500 for the last 2 years, the total additional repayments / available funds to redraw should be $12,000. Using the redraw facility funds you would be able to make the repayments for the next 6 months. An option would be to redraw the entire amount in one go into a linked offset account that was set up with the loan direct debit that way the repayments would take care of themselves so to speak.
If you are ahead on your loan some lenders will also allow you stop making repayments via a repayment holiday which is essentially the same thing but means involving the bank and getting their permission to do so which I always think is the last option.
These are short term solution and perfect for short periods of reduced income. It should also be said that it is great incentive if ever there was one to pay a bit extra off your loan each repayment so you have these options!
Switch to interest only
Another strategy for managing a temporary reduced income is switching your home loan to interest only. An interest only loan requires you to repay only the interest component of the loan for up to 5 years (generally) with no principle repayment. This can substantially reduce you monthly payment. This is a great option if you have a lifestyle change and need to pay for increased living expenses or decide to have children and as a result, you drop from a two-income family to one income.
Following this period you can switch back to P&I loan structure, but in the meantime your family will be under less pressure when it comes to repayments. Keep in mind that having an interest only loan doesn’t prevent you from paying off the principle. You’re free to make extra repayments either regularly or in once off amounts. This highlights the primary benefit, your minimum obligation is lower but you have the choice to pay off some of the principle if it suits your situation.
This option is very lender dependent. For some lenders it’s very easy to switch to interest only and for others interest only loans are for investment properties only. It's best to speak to a broker and organise the switch prior to your period of reduced income so you’re more likely to be approved.
Do a practice run
My final advice for those planning of entering a reduced income period due to things like maternity leave and long service is to plan ahead and do a practice run. If you know you’ll be living on a single income for the next 3, 6 or 12 months why not see if this is something you can handle before that time. If it looks like its not going to be possible talk with your lender or broker while you still have your full incomes.
About the Author:
Marty McDonald is principal of mortgage broker “Mortgage Experts”. Marty specialises in assisting active property investors with loan structuring advice and implementation as well as helping credit worthy borrowers with slightly outside the box income and employment situations. Find Marty on Facebook