March 04, 2014
It is a commonly held view that you will cut years off your home loan by making fortnightly repayments rather than monthly. Is this correct?
Loan contracts are usually written in terms of a minimum monthly repayment. Most lenders also allow fortnightly repayments but traditionally have insisted on half of the monthly repayment. So a loan requiring a repayment of $1,000 per month can also be repaid by $500 each fortnight. Over a year the total repayments will then be $13,000 because there are 26 fortnights in a year. This will repay the loan as much as 5 years earlier, mainly because of the additional $1,000 repayment every year.
If you choose to make fortnightly repayments many lenders now set the minimummonthly repayment as the ‘true fortnightly repayment’. This is less than half the contracted monthly repayment. Using the example of $1,000 per month the true fortnightly repayment will be $462. This amount is calculated so your total repayments over a year are still $12,000. If you choose to make this repayment the impact on your loan term will be negligible.
If you receive a monthly salary you might even be worse off by making the true fortnightly repayment! Rather than paying $1,000 soon after you receive your salary you choose to pay $462 and wait another two weeks before paying another $462. Delaying payments simply means you accrue more interest on your loan! On the other hand, if your salary is deposited into a 100% offset account it may not matter how often your repayments are made into the loan account.
So, what are the recommendations?
- Align repayments with your pay cycle. EG monthly salary = monthly loan repayments;
- Whatever cycle you choose, pay more than the minimum. EG make a repayment of $1,083 instead of $1,000 and you will still pay $13,000 over a year, and cut the loan term by years;
- Discuss your plans with us, we have tools to demonstrate the options.