Top mortgage mistakes and how to avoid them

Ignore your mortgage and you will pay dearly. So much so that the purchase price of your home will look like a bargain compared with how much interest an inappropriate home loan could cost you. Here are five common mistakes that you'll want to avoid.

1. Taking on a longer term

Do you really want to be making mortgage payments in your 70s?

That's what a 40-year mortgage could do. Sure, it allows you to buy a larger house for much lower repayments but banks aren't going to give you an extra 10 years to pay off your loan without expecting a handsome reward.

When I was selling home loans in the early 1990s, a 25-year mortgage was the norm.

It's now 30 years but 40-year loans are also up for grabs. As consumer group Choice highlights in its high-risk borrowing report: "The difference between a 30-year and 40-year term on a $300,000 home loan is $140,800 in extra repayments. Repayments are only $4.88 per day more for a 30-year loan - the equivalent to a daily large coffee."

By agreeing to a 25-year term rather than 40 years, you'd save more than $168,000 in interest on a $300,000 mortgage at 5%pa (more if the rate is higher).

While a 40-year loan will reduce your monthly repayments, even if only by a coffee or two a day, your repayments in the first 10 years will primarily pay interest.

2. Trying to time the market

Good luck on picking the right time to lock in your home loan.

According to researcher Canstar, which has crunched the numbers to determine how often, over the past 20 years, you would have got it right, there's a 50:50 chance.

For some of those who got it wrong the cost in interest on a $300,000 loan was as high as $22,000.

The tip here is to regard fixed rates in terms of certainty - not best value.

Having said that, though, the average variable, package variable and three-year fixed rates are sitting at 5.45%, 5.10% and 5.13% respectively. For those wanting to fix, there are rates as low as 3.99% for one year on Canstar's database. In the three-year fixed bracket, rates range from 4.64% to 6.09%.

Most lenders these days allow up to $30,000 in extra repayments in the term of a fixed-rate loan.

If your mortgage is large and you want certainty and flexibility, ask your lender about splitting your loan into two fixed accounts - you would get double the amount of extra repayments allowable per year.

3. Overlooking a "rate lock"

Many people are unaware that your loan rate is the one that is current at the time of settlement, not when you applied for the loan.

So with a time lag of several months between a loan application and settlement, the rate you were quoted may no longer be available.

A rate lock simply allows you to lock in the fixed interest rate that you were quoted at the time of loan approval, generally for up to three months.

A fee of around $300 can apply, so be sure to factor that into your overall cost calculations.

4. Rushing to refinance

Exit fees have been banned on all loans taken out from 2011 but there are other costs associated with refinancing.

I strongly recommend that you calculate your break cost before you move. What this means is that you need to add up all the costs of moving and divide this by your monthly savings.

So if, for example, it costs you $1000 to move but you'd save $50 a month in repayments, your break-even cost is 20 months - it will take you just under two years to recoup moving costs.

Can you be certain that your new lender will be just as competitive in two years as it is today? The average interest rate for standard home loans over the past 20 years has been 7.6% compared with today's 5.9%.

5. Placing all eggs in one basket

If you intend to build a property portfolio, most mortgage advisers would suggest that you think twice about cross-securitising your loans.

Cross-security happens when your banks uses all properties mortgaged with it as security for your outstanding loans.

While there are some advantages in keeping all your loans with one institution, there are plenty of disadvantages, including the fact that you can't access the equity in each property individually and, if a lender introduces a new fee or increases rates, you're affected across all loans.

Essentially your lender is in control of your portfolio, not you.

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