Thinking of breaking your mortgage? What you need to know

Now interest rates are falling, some borrowers are wondering if they should “break” a fixed-rate loan to “re-fix” on the new, lower rates.

Retail banks began lowering interest rates after the Reserve Bank trimmed the Official Cash Rate (OCR) in August and they moved quickly again this afternoon following a second cut - this time 50 basis points (bps) to 4.75%.

With a final OCR decision for the year to come in November, the cash rate could sit between 4.50%-4.25%, depending on whether the RBNZ opts for a 25 or 50bps cut.

ASB has the lowest standard fixed two-year rates among the big five banks at 5.69%, while ANZ is also offering a “special” two-year fixed home loan rate of 5.69%.

So for some mortgage holders who fixed at higher levels, it may be tempting to break the term and nab a lower interest rate.

But it’s not that simple, experts say.

When a fixed-rate loan is “broken”, a bank will charge a break fee (which often negates the benefit), financial adviser Darcy Ungaro says.

“One way you could look at this exercise is that you’re buying better cash flow. If you have the money lying around without a purpose (firstly, well done), this may be justifiable. If you have to borrow it, though, then servicing the interest cost should be accounted for going forward.

“Why? Because the bank may incur a loss when lending that money to someone else at a lower rate than what they were previously able to charge. The break fee covers the bank’s costs associated with this early repayment.”

But there’s a fishhook, he says.

That’s because the break fee is influenced by what the wholesale borrowing costs were at the time of origination. However, wholesale costs aren’t disclosed to the borrower.

“Break fees can only cover the lender’s actual costs. But how can this be independently verified, when the wholesale rates aren’t disclosed at the time the loan was locked in?

“As with investing, the more you chase perfection, the worse your returns can be.”

Borrowers can find out exactly what the break fee will be by contacting their bank, although some online calculators can give a guide.

Then you will need to work out how much interest you will be saving by using a mortgage calculator, such as the one on the Government-backed money education website sorted.org.nz.

Ungaro says people considering breaking their fixed-rate loan should consult their bank and get independent advice.

“Remember fixing your mortgage is about risk management, not speculation.”

Kiwi Mortgages adviser Jatinder Singh told One Roof some of his clients were already getting relief from the sudden interest rate drops, which was benefiting both first-home buyers and homeowners.

A couple who had fixed their $800,000 loan for six months on 7.2% had just re-fixed it for 5.89% and were saving $250 a week, he said.

A first-home buyer he was working with had the amount they could borrow go from $670,000 to $700,000 overnight because banks had also adjusted their assessment rates.

“That means they can now go out and if it is an auction they can bid $30,000 [more] on the same property,” he said.

Tella Mortgages chief executive Andrew Chambers told OneRoof while falling interest rates were good news for household finances, most borrowers were still paying rates of about 6.25%.

“People’s expenses have definitely tightened up. There’s less excess spending going on,” he said.