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Picking a home loan is one of the most important decisions you’ll make as a property investor. That’s because getting the right home loan for your property type and investment goals can be the difference between earning positive cash flow or not.
While there are eight main types of home loans, thousands of other loan products are available from different lenders. But once you know the purpose and benefits of each loan type, you’ll have a better idea of which one is right for you.
Let’s help you take the guesswork out of picking the right kind of home loan and reveal what you need to know about each loan type on the market.
What types of home loans are there?
As we mentioned, there are eight types of home loans available in Australia. Some are tailored for investors building a new home, while others are purpose-built for self-employed property investors.
Let’s run you through the main types of home loans on the market for property investors:
- Bridging home loans: these loans help investors transitioning between selling one property and buying their next.
- Construction home loans: these are designed for investors building a new property or undertaking a significant renovation project.
- Fixed and variable home loans: a fixed-rate loan means your interest rate is locked in for a set duration, while a variable loan means your interest rate follows the market’s ups and downs.
- Interest-only home loans: these allow you to repay only the interest portion of your loan over a pre-determined period, helping to keep your repayments low for the first part of your loan.
- Line of credit home loans: this allows investors to borrow against the equity in their home, essentially giving you a line of credit to expand your property portfolio.
- Low doc home loans: this helps investors without the proper proof of income documents to access finance (usually at a higher interest rate or with higher fees).
- Self-employed home loans: this loan type gives freelancers, sole traders and self-employed investors the ability to purchase their first (or next) property.
- Non-conforming home loans: this loan allows investors to access property finance with low credit scores, a low deposit, or an inconsistent employment history.
Why should you bother learning about all these different types of home loans? Each loan type is designed for a specific type of borrower. So whether you’re looking to build a brand new investment property, speed up your property portfolio’s growth or lower your expenses, there is a specific home loan type to meet your needs.
Understanding each loan type's features, benefits, and conditions will help you find the best loan option for your next investment property. Picking the wrong loan type could leave you at risk of paying a higher interest rate, hefty fees, or even lowering your borrowing capacity.
8 different types of home loans you need to consider
Ready to get into the nitty gritty of each home loan type? Here’s your guide to the eight most common home loan types in Australia, and the pros and cons of each.
1. Bridging home loan
What is a bridge loan for homes?
In a nutshell, a bridging loan helps you secure a new property while you’re in the process of selling your existing property. This type of home loan is usually short-term (roughly six months or less) and is designed to help you navigate this tricky transitional time between sales.
Here’s how it works:
Once you take out a bridging loan, your lender will take over your existing property’s mortgage and finance the purchase of your new property.
That means your bridging loan’s Peak Debt (a.k.a. The total amount borrowed) includes:
- The outstanding amount you still have to pay off on your existing home’s loan
- The purchase price of your new property
- Any purchase costs (such as stamp duty, legal fees and lender fees)
Once your existing property has been sold, the proceeds (minus any sales costs and agent’s fees) are used to lower the Peak Debt. After this, your End Debt amount is repaid as a standard home loan.
Let’s run through an example to bring this loan type to life:
- You’re in the middle of selling an existing property with $200,000 remaining on loan and are purchasing your new property for $500,000.
- That means your Peak Debt is $700,000, and this figure is the short-term bridging loan amount you’re borrowing.
- Then, you sell your existing property for $400,000. That takes you down to an End Debt amount of $300,000 as you move from a bridging loan to a traditional home loan.
So, what are the advantages of a bridging loan?
- It helps navigate this awkward transitional period: if you’re unable to service two home loans at the same time, a bridging loan can lower the financial burden while you’re selling one property and purchasing another.
- It can boost your borrowing capacity: plus, a bridging loan allows you to borrow up to 100% of the purchase price. This can be helpful if you’re purchasing a property that is currently outside your budget but will be affordable once you’ve sold your existing property.
2. Construction home loan
What is a construction home loan?
If you’re planning to build your next investment property or make significant renovations to an existing property, a traditional home loan might not be the best move for you.
Instead, a construction loan can give greater flexibility to draw down on your loan to cover the costs of materials, approvals and paying tradespeople.
How do new construction home loans work?
To help you navigate through the building or renovation process, a construction loan will make progress payments at crucial stages throughout construction.
Typically, these progress payments will happen at the following stages:
- Foundation: this payment will cover everything from levelling the ground to plumbing and waterproofing.
- Frame: this payment helps cover partial brickwork, roofing, and insulation (a.k.a. The frame of your property).
- Lockup: this payment helps you construct external walls and put in lockable windows and doors.
- Fit-out or fixing: this payment is all about the internal fittings of your property, including plasterboards, electricity, plumbing and gutters.
- Completion: the final amount helps you make any final payments to builders and cover things like fencing, painting and cleaning.
Plus, while work is still being done, you’ll only need to pay interest on money that has been used (not on your total loan amount).
Here’s how this plays out in absolute dollar terms: If you’ve only drawn down $150,000 of your $300,000 loan by the third progress payment, you’d only be charged interest on $150,000 of your loan.
So, why would an investor choose to take out a construction loan?
- Lower interest payments: you’ll only be charged interest on how much you’ve used so far, not the entire loan amount.
- Interest-only payments: during construction, many lenders will only need you to pay back the interest accrued on your loan to keep your initial repayments lower.
- Stamp duty savings: plus, stamp duty is only paid on the land with a construction loan (not the home itself), which can be a significant saving for you.
However, it’s also worth noting that construction loans can have higher interest rates and fees. You’ll need to have a bigger deposit or equity available as construction loans require lower loan-to-value ratios (LVRs).
3. Fixed vs Variable home loan
What is a fixed home loan?
There are two main ways interest rates are set on home loans: fixed interest loans or variable interest loans.
A fixed interest rate means your interest rate will remain locked in for a certain amount of time (usually up to five years). This can help you forecast your expenses and rest assured knowing you’re paying the same amount in interest per month.
However, you may miss out on savings if interest rates do drop (unless you’re willing to pay a break fee to move to a variable rate loan earlier).
What is a variable home loan?
On the flip side, a variable interest rate changes with the market. This means your monthly repayments can vary greatly month-to-month. While variable loans give you greater flexibility and allow you to score interest rate savings, it’s much harder to budget and forecast your expenses ahead of time.
Let’s run you through the numbers based on a $400,000 loan as an investor:
86 400 Fixed Investment Loan
Macquarie Basic Investment Loan (Principal & Interest)
ANZ Fixed Rate Investment Loan (Principal & Interest)
Yard Investment Loan (Principal & Interest)
Loans.com.au Smart Boost Investor Bundle
Nano Variable Investor Principal & Interest
4. Interest-only home loan
What is an interest-only home loan?
Speaking of interest, there is a specific type of home loan that can help you lower your monthly repayments at the beginning of your loan term.
An interest-only home loan means you’re only paying back the interest accrued on your loan for a set period of time, not your original loan amount (known as the principal).
Unlike a principal-and-interest (P&I) loan (where you’re paying down both the original loan and amount and interest accrued), an interest-only loan allows you to pay the interest charged monthly.
Typically, an interest-only loan lasts up to five years before reverting to a P&I loan.
Let’s use a side-by-side comparison to illustrate the pros and cons of an interest-only loan:
$1,125 (interest-only period)
$2,122 (P&I period)
Total cost over 30 years
$10,051 more expensive
As you can see, you’d be hit with an extra $10k in interest by opting for an interest-only loan. However, you’d score the short term benefit of lower monthly repayments at the beginning of your loan.
The other significant drawbacks to an interest-only loan include:
- Higher interest rates: this means you’ll end up paying more over the life of your loan.
- Slower to build equity: as you’re not paying back your original loan amount for the first few years, it can take longer to build equity (which can slow down building your property portfolio).
5. Line of credit home loan
What is a line of credit home loan?
If you’re looking for a home loan that gives you access to cash when you need it, a line of credit home loan might be right for you. However, with the rise of offset accounts, these types of home loans are becoming less common.
As the name suggests, this kind of loan allows you to tap into the equity in your property and access these funds as a line of credit. The amount of money you can withdraw is determined by your lender, who sets the credit limit for your loan.
Let’s chat about how it works:
- Let’s say you apply for a line of credit loan and get approved for a line of credit up to $100,000.
- If you take out $40,000 of your line of credit, you’ll only be charged interest on that $40k (not the entire $100k).
Most lenders will only be willing to lend up to 80% of your property’s value with a line of credit loan.
Interest rates also tend to be slightly higher with this type of loan. Take these examples:
Average variable home loan interest rate
Average line of credit loan interest rate
6. Low doc home loan
What is a low doc home loan?
Also known as a low documentation home loan, this type of loan is designed for investors who don’t have the typical proof of income required to qualify for a home loan.
Usually, lenders see borrowers without regular income, payslips or consistent tax returns as high risk. However, with a low doc home loan, you’re still able to secure a loan (even without all the right paperwork on hand).
However, there are a few things to consider before taking out a low doc home loan. First up, you’ll usually need to pay a higher interest rate and have fewer lenders to choose from. Plus, you’ll only be able to borrow up to 80% of your property’s value with this type of loan.
But there are some benefits to a low doc home loan, including less paperwork and a simple income declaration form that makes it easy to submit an application.
7. Self-employed home loan
What is a self-employed home loan?
Being your own boss doesn’t have to stop you from purchasing property or scoring a home loan. In fact, self-employed home loans are designed specifically for borrowers who run their own businesses or work as contractors or freelancers.
As a self-employed borrower, you’ll have to provide some additional paperwork to your lender, including:
- Proof of income: typically, big banks want to see at least two years of financial statements (tax returns, profit and loss statements and at least two business activity statements).
- Proof of ABN registration and ensuring this has been in place for at least two years.
- Credit history: some lenders will require you to provide current credit card or bank statements to see how you manage your business cash flow.
The good news is that self-employed borrowers can access all the main types of home loans, including variable and fixed-rate loans, construction loans and line of credit loans.
8. Non-conforming home loan
What is a non-conforming home loan?
Having a low credit score doesn’t have to stop you from purchasing a property. A non-conforming loan is designed to help borrowers with unique financial history access property finance.
Usually, a non-conforming home loan is considered by borrowers with:
- An imperfect credit history (such as a history of bankruptcy or missed bill payments)
- An irregular or unstable source of income (such as multiple casual jobs)
- The new to consolidate multiple debts into a new loan (such as personal loans or credit card debt)
The biggest thing to keep in mind with non-conforming loans is that your interest rate will be higher (as you’re seen as a more considerable risk to the bank). Plus, you may need to have a larger deposit ready and follow stricter repayment conditions.
How to pick the right type of home loan for your needs
Still not sure which type of home loan is the best fit for you? Take a read of these scenarios to see which might apply to your situation:
- If you’re juggling the transition between selling one property and buying your next: a bridging home loan can help you lower the financial burden of navigating two mortgages at once.
- If you’re planning to build a new property and need cash along the way: a construction loan can give you regular cash injections to pay for materials and tradespeople.
- If you’re looking for consistency with your property’s expenses: a fixed home loan can give you the certainty that your monthly repayments will remain the same.
- If you’re looking for flexibility in your home loan repayments: a variable home loan can give you access to the cheapest interest rates on the market.
- If you’re tight on cash and looking to lower your repayments: an interest-only loan can help you reduce your expenses at the start of your loan term.
- If you need access to the equity you’ve built up in your property: a line of credit loans allows you to draw down on your property’s equity and take it out as cash.
- If you’re self-employed or working multiple jobs as a contractor or freelancer: a low doc home loan can allow you to purchase a property, even without the proper paperwork.
- If you’ve got an imperfect credit history: a non-conforming loan can give you access to property finance, even with a history of late payments or bankruptcy.
Ultimately, learning what types of home loans are available can help you find the right loan type for your needs. Not only do you stand to save a stack of money in interest, but you could also secure your first (or next) investment property sooner than you might think possible.
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Disclaimer: The views, information, or opinions expressed in this blog post are for general information purposes only and should not be relied upon. We have not taken into account specific situations, facts or circumstances, and no part of this blog post constitutes personal financial, legal, or tax advice to you. You should seek tax advice from your accountant, specific to your situation.