You may have already found your dream home from browsing our search page. Or perhaps you’re still looking?
Either way, most home buyers will take out a home loan, especially if it’s their first time. Home loans today are more personalised than ever. You might want to pay a little less for a longer period of time, or on the contrary, pay more over a shorter timeframe. So the key here is to be honest about your circumstances and long-term goals.
Today, we’re diving into the different types of home loans available for first home buyers and exploring the pros and cons. After all, this is a big purchase, and we want to ensure you’re making the best decision for you.
Before you we dive into each of these different types of home loans, take a look at this quick overview.
This table will give you a snapshot of what to expect from each loan type, helping you to make an informed decision about which loan best suits your needs.
| Type of Home Loan | Interest Rate | Benefits | Drawbacks |
|---|---|---|---|
| Variable Home Loan | Fluctuates | Flexible repayments, additional features, no penalties for early repayment | Unpredictable payments, potential for higher long-term costs |
| Fixed Home Loan | Fixed for a set period | Stable repayments, easy budgeting | No benefit from rate drops, limited extra payments, early repayment penalties |
| Interest-Only Loan | Initially lower | Lower initial repayments, ideal for investors | Higher total costs, significant payment increase after interest-only period |
| Low Doc Loan | Higher | Flexible documentation, accessible for self-employed | Higher interest rates, fewer features |
| Line of Credit Loan | Variable | Flexible access to funds, lower rates than credit cards | Risk of increased debt, property as collateral |
1. Variable home loans
Variable home loans are one of the most popular options for Australian home buyers. These loans have interest rates that fluctuate based on the Reserve Bank of Australia’s official cash rate, meaning your repayments can increase or decrease over time.
Advantages:
- Flexible Repayments: Payments decrease when interest rates fall.
- Additional Features: Options like redraw facilities and low introductory rates.
- No Penalties for Early Repayment: Allows you to pay off your loan faster without extra charges.
Disadvantages:
- Unpredictable Payments: Repayments can rise if interest rates increase.
- Potential for Higher Long-Term Costs: Due to interest rate fluctuations.
Variable home loans are ideal for borrowers who want flexibility and are comfortable with potential changes in their monthly payments.
In essence, variable home loans are great for buyers looking for flexibility. It’s best suited for disciplined borrowers who wants to pay off mortgage quickly by not having penalty for advance payouts.
However, one must be careful with financial budgeting for loan repayments and has to make sure that enough is allocated in case there is a scenario of an increase in interest rates.
2. Fixed home loans
The second most popular option among borrowers would be fixed home loans. As the name suggests, your interest rate will be fixed over a set period of time.
Fixed home loans lock in your interest rate for a set period, usually between one and five years. This means your repayments remain the same throughout the fixed period, providing stability and predictability.
Advantages:
- Stable Repayments: Your monthly payments won’t change, even if interest rates rise.
- Budgeting Ease: Helps in precise financial planning.
Disadvantages:
- No Benefit from Rate Drops: If interest rates fall, your repayments remain the same.
- Limited Extra Payments: Restrictions on making additional repayments or accessing redraw facilities.
- Early Repayment Penalties: Charges for paying off the loan before the fixed term ends.
Fixed home loans are suitable for those who prioritize stable, predictable payments and want to avoid the risk of interest rate increases.
To sum it up, fixed home loans are great for people who seek precise budgeting since the interest that borrowers will be paying can be calculated from the very start.
They are also flexible with lock in periods that are typically short ranging from 1-5 years and borrowers can revisit their financial decision after the fixed rate period ends on whether a fixed loan is best suited for their needs.
3. Interest only loans
The third loan type on this list is the interest only loan. For this loan, it works by getting the borrower to only pay off the interest over a set period of time and not paying down your principal loan (i.e. the total loan that the bank is lending you).
Interest-only loans require you to pay only the interest for a set period, usually up to five years. After this period, you start repaying both the principal and the interest.
Advantages:
- Lower Initial Repayments: Helps manage cash flow in the short term.
- Ideal for Investors: Investors can maximize tax benefits and manage cash flow effectively.
Disadvantages:
- Higher Total Costs: Since you’re not paying down the principal, the overall cost of the loan is higher.
- Payment Shock: Monthly repayments increase significantly once the interest-only period ends.
In summary, interest only loans are good for buyers with plans to do use the short term cash savings for a renovation or property improvements since they will have more money at the start of the loan period.
Interest only loans are also favoured by investors who typically do not want to pay down their principal loans, as this would reduce their benefit of“negatively gearing” their investments, a topic that we will cover in detail in another article.
Investors are banking on the capital appreciation of the property so that they can keep their holding costs low and then reap the benefits of capital gains once they sell the property in the future, since they may not be planning to hold the property for 25-30 years or use the property as their own home.
4. Low doc loans
Low documentation loans, or low doc loans, cater to self-employed individuals or freelancers who may not have the traditional proof of income required by standard loans. These loans often come with higher interest rates and stricter terms.
Advantages:
- Flexible Documentation: Allows alternative proof of income.
- Accessibility: Provides loan options for those who might not qualify for traditional loans.
Disadvantages:
- Higher Interest Rates: Reflect the higher risk for lenders.
- Fewer Features: Limited flexibility compared to standard loans.
Low doc loans are useful for self-employed borrowers who have fluctuating incomes and can provide alternative financial documentation.
In summary, low doc loans are an option for freelancers or the self-employed looking to finance their next home.
However, proof of income has to be properly substantiated to reassure the lender that the loan can be “serviced”.
It is important that an income audit is to be done with an experienced mortgage broker to work out net income and the amount of loan one can afford realistically.
Doing so could open up the possibility of discovering more lenders and product choices that you may need.
5. Line of credit loans
The next loan type we will be sharing will be the line of credit loan, LOC for short. LOC is a special type of loan where it is dependent on the equity of your property. LOC are typically known as reverse mortgage.
Essentially, it allows you to unlock equity in say, a property you already own, for access to credit. It usually requires an interest-only payment as a minimum each month, which can add up to a lot of interest in the long run.
Advantages:
- Flexible Access to Funds: Borrow as needed up to a set limit.
- Potentially Lower Rates: Lower interest rates compared to credit cards or unsecured loans.
Disadvantages:
- Risk of Increased Debt: Easy access to funds can lead to increased debt if not managed carefully.
- Property as Collateral: Risk of losing your property if you default on the loan.
Line of credit loans are ideal for homeowners looking to leverage their property equity for significant expenses or investments.
Overall, a line of credit loan is catered towards people who already have equity on their property and are seeking to convert that equity to cash for funding their personal needs such as renovation or holidays.
The risk is that balance can be costly if the principal amount is not reduced since there is a high interest rate to be paid on a monthly basis.
Often you may find that a reverse mortgage is also popular with those approaching retirement, as it is a way for retirees to unlock wealth that they have built up over time via a family home that they own and once retired, they may not have a regular income to be approved for a loan in future.
Do take note that there’s no “one size fits all” home loan but this article should be able to give you a rough idea of the type of home loan that is suitable for you.
Financial appraisals are especially important when it comes to home loans as you’ll be able to understand your capabilities when it comes to borrowing and repaying.
Our Advice
That said, our best advice would be to consult a mortgage broker to do an appraisal and to find out more about the specific home loan schemes offered.
If you’re still looking for your dream home or inspirations, head on over to our search page, where you can browse and swipe thousands of property listings and real estate content. And make sure to read up on what to think about before buying your first home too. Happy hunting!
FAQ Section on ‘Different Types of Home Loans Explained in Australia’
What are the different types of mortgages in Australia?
There are several types of home loans available in Australia, including:
- Variable interest rate loans, which can be either standard or basic.
- Fixed interest rate loans.
- Line of Credit (equity loans).
What is an FHA loan in Australia?
In Australia, FHA loans are not available as they are specific to the United States. However, similar types of loans provided by the government may assist certain borrowers, and these usually require specific eligibility criteria and involve mortgage insurance premiums.
How many home loans are there in Australia?
As of 2024, there are approximately 3.2 million residences in Australia with mortgages. This figure excludes investment loans and represents a significant portion of the roughly 10.8 million residences in the country.
What are B and C lenders?
B lenders and C lenders in Australia refer to secondary or private lenders who provide loans to individuals who may not qualify for mortgages from primary lenders (A lenders). These lenders typically offer alternatives for borrowers with less conventional financial profiles.
