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How do I know which loan is for me?

Investing in New Zealand’s property market and taking on loans go hand in hand. However, it can be difficult to work out exactly what loan type and structure you should choose.

To help you get started, written below are explanations for some of the common loan types:

1. Variable Rate Loan

A variable loan carries with it an interest rate that goes up and down as the market changes. This means your loan payment will also go up and down in the same manner.

The loan allows for greater flexibility as you can pay any additional payments, lump sums, or pay the whole loan off with no penalties.

It’s worth taking note that with some non-bank lenders, there may be an early payment charge for full repayment of the loan.

2. Fixed Rate Loan

In a fixed rate loan, you can lock your interest rate for a chosen period of time. The fixed rates you can choose from typically range between 6, 12, 18, 24, 30, 36, 48, and 60 months. This means you will have the same loan payment for the time of your chosen time period. 

Most mortgage advisors will help you choose a fixed rate term based on the following criteria:

a) economist reviews
b) comparison to other loans held by you
c) what the future may hold for you
d) the flexibility you need.

Some lenders also allow small extra payments or lump sums with little to no penalty fees.

3. Principal and Interest / Interest Only Loan

While variable and fixed rate loans set the interest rate, principal and interest / interest only loans set the type of loan payment.

In a principal and interest loan, you are not only paying the interest due on the loan. You will also be making an extra payment to reduce the balance of the loan. Aside from choosing the fixed rate, you will also be choosing the term of the loan and the term will help set the principal reduction portion of your loan. This normally comes in 30, 25, or 20-year terms but can be less. 

The opposite is an interest only loan, which means what is says: you will only pay the interest due and no additional principal payments.  As with a fixed rate loan, you will choose how long you wish to pay interest only.  You will still pay the loan off over a chosen term as with a fixed rate loan. However, the reduction of the loan will kick in after your chosen interest only period.

4. Revolving Credit Loan

A revolving credit loan is a type of a variable rate loan. Here, the loan you are approved for is also the limit of the loan which does not reduce over time. However, if you make additional payments to reduce the principal of the loan, you can then access those funds in the future up to the original limit of the loan.

In other words, you can put money in and out as much as you like up to the approved limit. It can even attach itself to a transactional bank account! Plus, you will only pay interest on the loan balance owing.

5. Redraw Facility

This is similar to a revolving credit loan. You also can put money in and out as much as you would like. It can also function as a transactional bank account. However, there are 2 main differences:  

a) the limit will reduce over the chosen term of the loan
b) if you are on a fixed rate and over pay the minimum repayment, you can draw the excess funds

6. Split Loan

As you see above, there are many types of loans. If you are looking for the most flexible option, you can split your loan into different loan types. For instance, you may choose a smaller portion to be on a variable rate that will allow you to pay extra payments with no penalties. The rest of your loan could be placed on a fixed rate, allowing for the certainty of your loan payment on the majority of your loan.

7. Investment Loan

This could be any of the loans above but the purpose of the loan is to purchase a residential investment property rather than a home loan. Lenders may have different lending criteria for investment loans.

About the author

Tracey Munns is the Co-founder and CEO of VerdiPlus and a specialist in personal wealth creation. She is an engaging energetic business person widely experienced in aspects of the financial services industry. Tracey holds a Bachelor of Commerce, is a Registered Financial Adviser and a noted businesswoman and public speaker. Her passion is to help as many people as she can to 'love their finances and change their lives'

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