In the second part of our new series with Kiwibank answering your questions about Covid-19’s impact on New Zealanders’ finances, a reader asks what the mortgage holiday offer is and what it would mean for their repayments. Kiwibank’s Nicole Pervan responds.
I’d like your help in understanding the mortgage holiday offer. I am a salaried employee and my wife owns and operates her own business. We have a $500,000 mortgage, with 20 years left on the term, currently at 4.29% p.a. fixed rate. Her business has been shut during lockdown and we’re unsure how things will look when she can reopen.
Even with the stimulus package, our household income has reduced by about 30%, and while we can still continue to pay our mortgage it’s putting a lot of pressure on us. A mortgage holiday would provide some welcome relief. But how will it affect my mortgage long term? If I take a six month holiday how much more will I have to repay? Is it better to take a three month or one-month holiday for some instant relief?
The fixed-term is up in July, so we have a decision to make. What are my options and what do they offer?
Kia ora Mortgaged,
The first thing I’d note is the relief you’re talking about is not a ‘holiday’ as such but rather a deferral of payments. A home loan repayment deferral (commonly referred to as a home loan holiday) is when you’re relieved of making your home loan payments for an agreed period of time, anywhere up to six months. During that time, you can use the money you would have spent on home loan payments to help you cover your day-to-day costs while your wife’s business recovers from its closure. Applying for a home loan repayment deferral is an option for anyone struggling to make their home loan payments due to Covid-19 – you can find the criteria and information on how to apply on our website.
But it’s important to weigh up the financial relief of not having to make home loan payments for a few months against the additional interest you will pay on your loan in the long term. A repayment deferral is not a clean break from your home loan obligations, but a lengthening of your home loan repayment term with the principal – the amount outstanding on your loan – continuing to accrue interest while you aren’t making payments. So, the longer your home loan repayment deferral, the more interest you will pay all up.
Let’s take your home loan. At your current rate and term, you will currently be paying around $1429 a fortnight in repayments for the next 20 years, after which you will have repaid the $500,000 principal and about $245,000 in interest. If you took a repayment deferral for six months, to cover the interest accrued over the holiday you would add eight months plus the six month repayment deferral period to your home loan, bringing your total interest payments up to $271,000 – about $26,000 more than your current home loan. Adding 14 months may not seem like a lot in the span of a 30-year loan, but it might seem like a lot when you would have otherwise expected to own your house outright by then. But if your wife’s business is going to take a few months to get back on its feet, and you think you may start struggling to make payments, that might be a good option.
If your wife is slightly more optimistic about the outlook of the business in the long term, a better option might be to take the six-month deferral – but when you start making payments again, increase your payments to help offset some of the additional interest accrued over the deferral. If, after living a simpler life during lockdown, you and your wife thought you could continue some of that budget tightening, you could increase your fortnightly payments. If you increased them to, say, $1484 – only $55 more – you would reduce the cost of borrowing down to about $9000. So a $28 a week sacrifice would save you about $16,000 all up and allow you to pay off your home loan on the originally agreed date. A good outcome given the flexibility you’ll enjoy in the near term.
So if you decide a home loan repayment deferral is the best option for you and your family, remember that the shorter the deferral, or the more you can comfortably pay after the repayment deferral, the less additional interest you will end up paying overall. A shorter deferral – up to three months, say – would be better in the long term if it still provides enough relief while the business gets back on track.
Another option would be to not take a home loan repayment deferral at all, but to temporarily reduce your payments to interest-only. So for an agreed term you would only pay the amount that would have gone towards interest and not repay any of the principal. In your case, this would be about $823 a fortnight before returning to your usual $1429. That would mean the six-month interest-only period would cost you about $10,000 long term. But if after the interest-only period, you were to up your payments slightly to around $1452 – less than $12 extra per week – the total increase in the cost of borrowing would only be about $4000.
You could also look at extending your home loan repayment term from 20 years remaining to 30 years. Unlike the interest-only term, you are still repaying the principal to reduce the loan balance but at less than you are currently paying. But this comes with the strongest possible warning: adding 10 years to your loan can be expensive and may cost up to an additional $200,000. As with the other options above, once you are comfortable with your finances, try to get back on track as soon as you can. In this case it would mean reviewing the loan repayment term and deciding whether you can reduce it back from 30 years to 20.
Now, for some good news. You also say that your current fixed term ends in July. You’re in luck! Interest rates are currently at historic lows, so you will almost certainly be able to lock in a fixed term at a significantly lower rate. If the end of your fixed term fell in the middle of your home loan repayment deferral, the term would still end as planned, but you could have part of the deferral at your current interest rate and another at your new rate. This will reduce all the figures already mentioned, saving you money in the long term. In the calculations above we’ve assumed that the interest rate will remain the same for the remaining life of the loan. Of course with a lower interest rate, this will reduce the figures already mentioned, saving you money in the long term.
But that doesn’t mean you should just take a longer home loan repayment deferral or borrow more against the property. At Kiwibank, we want to help enable you to pay off your home loan as early as possible, giving you more financial freedom in the long run. So whichever option you decide is best for you and your family, you should challenge yourself to sustain some of the savings you’re currently making with your simpler lifestyle during lockdown. Once your household income starts getting back to where it was, if you can add that extra money saved into your home loan, you will save thousands in interest in the long term. You’ll thank yourself later.
Each option comes with pros and cons, which you’ll need to weigh up carefully before making a decision. You may also want to consider if there are alternatives available to you such as utilising any savings you may have.
I hope that helps.
Nicole Pervan, general manager products
Please be advised that our response is based on the information you have provided but there may be other things that we don’t know about your situation that would be relevant to the answers provided and would change the outcome. You should speak to your lender before making any decisions or a budgeting service.
Information provided by Kiwibank is limited to providing a general response to the specific question and is based on the limited information provided. It does not take into account any additional financial information or possible financial solutions available. This shouldn’t be relied on as the sole basis for any financial decisions. For information and assistance for your specific situation, you should call your lender. All calculations are based on the interest rate and repayment amount remaining the same for the remainder of the loan. Kiwibank is a Qualifying Financial Entity (QFE) under the Financial Advisors Act 2008. For a full copy of Kiwibank’s QFE disclosure, please view this link for more information.