Understanding the different types of home loan refinancing
Most people understand the basic concept of refinancing – switching out your home loan for a new one with a lower rate, better features, or a more favourable loan term. This is usually known as a rate-and-term refinance.
But there are a few other lesser-known types of refinancing available to you that might suit your situation or needs a little better.
From your classic rate-and-term refinance, to pulling equity out of your home, or even consolidating your debts, refinancing is a versatile financial tool that, if used correctly, could help you save serious cash.
What different refinance options do I have?
In Australia, you have four main types of refinance options. These include:
- Rate-and-term refinancing
- Cash-out refinancing
- Cash-in refinancing
- Consolidation refinancing.
What is a rate-and-term refinance?
A rate-and-term refinance is when you swap your current home loan for a new one, usually with the goal of getting a lower interest rate, a different term length, or a mixture of both.
How rate-and-term refinancing works
When you perform a rate-and-term refinance, your new home loan is used to pay off your old home loan and you will start making mortgage repayments to your new lender, based on the new interest rate and loan term you signed up for.
Unlike other forms of refinancing, such as a cash-in or cash-out home loan, your loan amount will not change when you rate-and-term refinance.
Who is a rate-and-term refinance good for?
This type of refinancing is good for borrowers who want to reduce their mortgage repayments, pay off their home loan faster, access home loan features not available with their current mortgage, or a mixture of the above.
Rate-and-term refinance FAQs
When should I use a rate-and-term refinance?
Rate-and-term refinancing is particularly popular when, after a period of high interest rates, they start to come down. As a result, lenders often vie to offer the most competitive refinance offers, including cashback and low interest rates. This makes it an excellent time to refinance, especially to find a cheaper rate.
What are some examples of rate-and-term refinancing?
Let’s say you’re 5 years into a 25 year mortgage when interest rates suddenly drop. The interest rate you currently pay is now a fair bit higher than what other lenders are offering, so you decide to refinance.
You could decide to refinance to get a lower rate, refinance to change the length of your term, or a combination of either.
Refinancing for a lower rate
If you refinance your remaining home loan balance at a lower interest rate for a new 25-year term, you will have lower monthly repayments. But because you’re signing up for another 25-year loan term, you will add another 5 years to the total time it takes for you to pay off your mortgage – 30 years all up.
It will be like starting your home loan all over again, except with lower repayments due to your new, lower interest rate.
Refinancing for a shorter term
Alternatively, you might choose to refinance with a lender that lets you shorten your loan term to 15 years, for example. If you keep the same, or a similar interest rate, you’ll end up paying off your home loan much faster, but it will result in higher mortgage repayments. These higher mortgage repayments may be offset by the fact that you will pay less interest over the life of your loan.
You might also want to lengthen your loan term by refinancing. Again, with the same interest rate as your previous loan, this will cause your mortgage repayments to drop. However, the savings you may make in the short term will likely mean you pay more in interest over the life of your loan.
Refinancing for a lower rate and shorter term
The quintessential rate-and-term refinance involves refinancing your home loan with a new lender who offers you a lower rate and a different loan term.
For instance, you might choose to refinance to a lower rate home loan and decrease your loan term to 15 years. This would have the effect of trimming down your monthly repayments, shortening the time it takes you to pay off your mortgage, and, by the tail-end of your loan, reduce the overall amount of interest you pay.
Or, you may want to get a lower rate and a longer loan term. In this case, it would take you longer to pay off your loan, resulting in more interest being charged, but your monthly repayments would come down significantly, thanks to a lower rate and a longer repayment period.
What is cash-out refinancing?
Cash-out refinancing is a lot like a standard refinance, except that it lets you convert some of your home equity into usable cash.
How cash-out refinancing works
Cash-out refinancing works like a rate-and-term refinance, except that you borrow more money than you currently owe on your mortgage. The difference is then paid to you in cash.
The extra cash you borrow is drawn from the equity you have built up from paying your previous mortgage. It can be deposited into a bank or offset account, or converted into a line of credit.
Your cash-out amount is added to your home loan balance and you will have to pay it back over time, as part of your mortgage repayments.
Who is a cash-out refinance good for?
A cash-out refinance is good for those who have built up significant equity in their home over time and want to use their equity for a quick cash injection.
Cash-out refinance FAQs
Can a cash-out refinance be used for anything?
The money you receive from a cash-out refinance can usually be used for anything you like, unless your lender specifies otherwise.
This means you can use your cash out to renovate your home, to buy yourself a car, for emergencies, a big purchase, or even use your equity to purchase an investment property.
How much can I cash-out refinance?
The amount of cash-out you can get from refinancing depends on how much equity you have in your property, as well as how much your new lender lets you draw from your equity.
For example, if your property is currently worth $800,000 and your remaining home loan balance is $600,000, that means you have $200,000 in equity.
But most lenders will only let you borrow up to 80% of the property value because using that $200,000 in the example above would mean that you now own a 0% stake in your property.
In this case, your equity is calculated on $640,000. After subtracting the remaining loan amount of $600,000, the usable equity you can cash out becomes $40,000.
What are the requirements for a cash-out refinance?
Most lenders have restrictions and requirements for cash-out refinance requests.
For example, if your loan-to-value ratio (LVR) is over 80%, meaning you have less than 20% equity in your property, then it’s unlikely that you will be allowed to cash-out refinance, as it could increase your risk of mortgage default.
Some lenders also want to know what you intend to use your cash for, especially if you’re pulling out a large amount of equity. This may impact how much they let you borrow.
Are cash-out refinance rates higher?
While most borrowers’ aim when refinancing is to get a lower interest rate, a cash-out refinance may not always provide the opportunity. This is because a cash-out refinance draws from and reduces your home equity.
As a result, lenders must take on more risk, leading to a higher interest rate being charged than on a rate-and-term refinance.
Does cash-out refinancing increase my mortgage repayments?
A cash-out refinance can increase your mortgage repayments, as you will be increasing the balance of your home loan. But, if you get a lower interest rate as part of your refinance, then you may be able to bring down the extra cost over time.
What is a cash-in refinance?
A cash-in refinance is when you make a large, lump sum payment to reduce your mortgage balance while refinancing. The goal of a cash-in refinance is to access lower interest rates or more favourable loan terms.
How cash-in refinancing works
When you perform a cash-in refinance, the lump sum you pay off your loan not only decreases your outstanding loan amount (helping you to pay off your home loan faster) but it also decreases your LVR and boosts your home equity.
For example, if your home is worth $500,000 and you have a loan balance of $400,000, your LVR will be 80%. If you were to cash-in refinance with a lump sum of $50,000, it would bring your outstanding balance down to $350,000, dropping your LVR to 70%.
The lower your LVR is and the more equity you have in your property, the less risky you appear to the bank. The less risky you appear, the more likely you are to be offered a better rate.
We can see the influence your LVR has on the rates lenders offer by taking a look at the average variable rate home loans in the Mozo database, for owner-occupiers making principal and interest repayments, on a $400,000 loan.
Average variable rates by loan-to-value ratio (LVR)
| 60% LVR | 6.68% p.a. |
| 70% LVR | 6.73% p.a. |
| 80% LVR | 6.76% p.a. |
| 90% LVR | 7.02% p.a. |
| 95% LVR | 7.30% p.a. |
Who is a cash-in refinance good for?
If you have received a lump sum of money, such as from an inheritance, you might consider cash-in refinancing, especially if you can qualify for a lower interest rate.
What is a consolidation refinance?
A consolidation refinance, also known as a debt consolidation loan, is when you combine debts, such as a home loan, credit card repayments, and a personal loan, into one larger debt, making it easier to manage your repayments.
How consolidation refinancing works
Consolidation refinancing works by combining your existing loans under the umbrella of your home loan. The lender you choose to refinance with will pay off your existing debts, and add them to your outstanding home loan amount. You will then repay your lender based on your new mortgage balance.
Who is consolidation refinancing good for?
If you are struggling with multiple separate debts, with different lenders and interest rates, a consolidation refinance may be of interest to you.
The ability to capture your debts under one ‘umbrella debt’ could be easier to manage, potentially save you money (depending on the interest rate you are offered), and give you a clearer picture of when you’ll be debt-free.
Consolidation refinance FAQs
Should I refinance to consolidate debt?
Before you make your mind up, ensure you’ve explored other options first. This can include:
- Talking to your lenders about your financial hardship. They may have ways to help.
- Visit the National Debt Helpline website for tips on how to negotiate payment terms with your credit providers.
- Consider whether a balance transfer credit card can help.
- Speak to a financial counsellor or seek free legal advice , if you need to.
For more information, read our guide on how refinancing works and learn about the costs of refinancing a home loan. Otherwise, compare refinance rates to see if you can switch and save.
* WARNING: This comparison rate applies only to the example or examples given. Different amounts and terms will result in different comparison rates. Costs such as redraw fees or early repayment fees, and cost savings such as fee waivers, are not included in the comparison rate but may influence the cost of the loan. The comparison rate displayed is for a secured loan with monthly principal and interest repayments for $150,000 over 25 years.
** Initial monthly repayment figures are estimates only, based on the advertised rate. You can change the loan amount and term in the input boxes at the top of this table. Rates, fees and charges and therefore the total cost of the loan may vary depending on your loan amount, loan term, and credit history. Actual repayments will depend on your individual circumstances and interest rate changes.
^See information about the Mozo Experts Choice Home Loan Awards
Mozo provides general product information. We don't consider your personal objectives, financial situation or needs and we aren't recommending any specific product to you. You should make your own decision after reading the PDS or offer documentation, or seeking independent advice.
While we pride ourselves on covering a wide range of products, we don't cover every product in the market. If you decide to apply for a product through our website, you will be dealing directly with the provider of that product and not with Mozo.