The cost benefit of Redraw versus Personal Loan

November 21, 2014
Aurelio Tenaglia

One thing that is a constant in our lives is the concept of life changes. Some of these changes that occur may require additional funding. Lump sums of money to perhaps pay for a wedding buy a new car or extend the size of the house. Knowing the best and cheapest ways of raising the funds to “fund life’s changes” is smart because choosing the wrong option can prove to be a costly decision.

For example you may own your home and be 5 years into paying off your mortgage with 20 years to go. Let’s say you need $50,000 to fund one of those life change scenarios. 

At the time of writing the best home loan offers an interest rate of 4.69% and the best secured personal loan is around 6%. Looking at the difference in these interest rates, from the get go it is obvious which is the cheaper option. 

The other point to remember is that the redraw facility on a mortgage is generally free and in general there is a setup fee of around $150 applied to the personal loan. Just on this basis the redraw is better.

Over the remaining 20 years on your home loan your monthly repayments will be around 35% less then what they will be over the 7 year average of a personal loan. 

The problem with the redraw facility is that the balance of the extra debt remains outstanding for the 20 year term of the mortgage and you aren’t forced to pay it off sensibly and in a short time frame as you would be with a personal loan. However, the most sensible way around this would be to pay your home loan off at the higher level, commensurate with what you would have paid had you borrowed via a personal loan. 

If you were to do this you, would benefit from a lower interest rate AND a shorter borrowing term AND pay off the $50,000 redraw around 6 months quicker than the 7 year personal loan. This outcome would ALSO represent a considerable saving on the borrowing cost.

Posted in: Interest rates

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