Understanding the different types of home loans: What you need to know

Looking for a home loan can be overwhelming with all the options available. However, there are a few important things to consider. Variable or fixed; principal and interest or interest only payments; is the property to live in (or 'owner-occupied') or is it an investment? These factors will determine the type of home loan you have.

The different types of home loans

Low deposit

A low deposit is generally less than 20% of the value of the property. Different lenders will accept different amounts of deposits, some even going as low as 5%.

Pro

You could buy your property sooner because you won't need to save up as much of a deposit.

Con

You'll need to pay LMI when getting a low deposit home loan, LMI is added onto the loan amount. As well, the interest rates may be higher than standard deposit home loans. Qantas Money Home Loans doesn't charge a higher interest rate for low deposit lending.

Next, you'll need to choose the type of interest rate.

Variable interest rate

A variable interest rate can increase or decrease over the life of the loan. Because interest rates may decrease, you can potentially reap the benefits if the market shifts in your favour. On the other hand, if interest rates increase, your interest costs will increase and your repayments will as a result.

Pro

A variable interest rate gives you more flexibility than a fixed interest rate and generally allows you to make extra repayments on your loan without penalties. The flexibility of a variable rate home loan also makes it easier to make changes to your loan such as refinance if your circumstances change or you wish to borrow additional funds. Variable rate loans will often have additional optional features such as redraw and offset features.

Con

Although they offer lots of flexibility, a variable rate loan is subject to change over the life of your loan. This means you need to be comfortable with the thought of increasing interest rates (and loan repayments) throughout your home loan journey.

Fixed interest rate

Fixed rates are perfect for those who like certainty and want to be able to plan ahead. That’s because a fixed rate loan is locked in for a specified period (usually 1-5 years), which means your rate (and your repayment amount) won’t change during the fixed period.

Pro

For something like a home loan, this might make budgeting a little easier, because you’ll have the same loan repayment during the fixed period as interest expense will be the same each month during that time.

Con

A fixed rate home loan doesn’t come with a lot of flexibility for your home loan. Generally extra repayments are limited or capped, and if you decide to change loans during your fixed period, you’ll potentially be looking at paying a break cost fee which can be very costly. Break fees can only be calculated at time of requesting a break of the fixed loan. As the cost can be high, you should be confident that your circumstances won’t change during the specified period of your fixed rate loan.

Types of property loans

Are you intending to live in the property you purchase, or rent it out? This will affect the type of home loan you choose.

Owner Occupied home loans

An Owner Occupied home loan is for a property that you plan to live in once you have purchased it.

Pro

Owner Occupied home loans typically have a lower interest rate than investment home loans, so your repayments will be smaller.

Con

If you're planning to rent out the property, an investment loan may be a better way to go.

Investment home loans

Investment home loans are for properties you are buying to rent out as an investment property. Investment loans are also for when refinancing an existing investment property or you're refinancing a property you currently live in but you are now planning on renting out.

Pro

Investment home loans allow you to rent out the property as soon as you've bought it.

Con

You will typically need to pay a higher interest rate for an investment home loan.

Types of home loan repayments

Another thing you'll have to decide is what type of repayments you are going to make.

Principal and interest payments

By choosing a principal and interest loan repayments, you're agreeing to make payments that cover the interest the lender charges each month, plus pay an amount towards the principal amount of your loan.

Pro

Principal and interest payments help to pay back your loan quicker - and increase the equity in your home. You'll also be paying less interest over the lifetime of the loan because you're paying back the principal amount you owe.

Con

As you are paying off both interest and principal amounts it may mean that your monthly repayments are larger than if you were to make interest only repayments.

Interest only payments

Interest only repayments mean you are only paying the interest that is accrued on your home loan each month. It's important to remember that interest only loan payments are limited for a set period of time (typically 1 to 5 years) before you need to switch to principal and interest repayments.

Pro

Interest only repayments keep your monthly repayments lower than if you were paying principal and interest. There can also be more tax deductions for interest only loan repayments which can be potentially beneficial if you are an investor. Speak to your accountant or tax professional for more information on the tax implications of having a residential investment property.

Con

Just like fixed rates, interest only periods aren’t forever, and eventually you’ll need to start paying off your principal as well. Only paying the interest on your home loan also means that you’ll end up paying more interest over the lifetime of the loan because you aren’t lowering your loan balance amount during your interest only period. Also, if your property doesn’t increase in value during your interest only period, you may not have any more equity in your home until you start paying off the principal.

Types of documents

When you’re looking for a home loan, it’s also important to consider what type of documentation you’ll be able to provide.

Standard Documentation

If you are currently employed you will need to provide proof of your income in the form of PAYG - this can be provided automatically as part of the application process.

Con

If you’re newly self-employed you may not have enough paperwork history to qualify for a standard home loan. There are many other types of loans that might be right for you based on your personal circumstances. However at Qantas Money, we are working with our funding partner to provide a great rate on the most commonly used loans (as outlined above) - so we don't offer any of the following:

Split loan

A split rate home loan is a mixture of both Owner Occupied and Investor, and Variable and Fixed interest rates. So, essentially it means a portion of your home loan is on a variable rate loan and a portion is on a fixed rate loan.

Pro

A split rate gives you options. If you’re unsure about fixing your entire loan to a rate, you can just fix a portion and keep some of your loan at a variable rate. It’s a way of ‘hedging your bets’ because with a split rate, if interest rates rise, you won’t be as bad off; and if interest rates lower, you still get some benefit.

Con

It might reduce your options - as not every lender will offer a split rate loan.

Bridging loan

A Bridging Finance home loan offers you an easier way to purchase a new home before you sell your existing one. Rather than making two sets of loan repayments while you are in the process of selling your existing home, a Bridging Finance home loan requires no repayments on the new loan during the Bridging Finance period.

Pro

Bridging loans allow you to purchase a second property while you’re waiting for your current property to be sold.

Con

Bridging loans aren’t always available on every home, and not every lender offers them. If the existing home has not been sold once the Bridging Finance period ends, repayments will be required on the new home loan in addition to repayments on the existing home loan.

Guarantor loan

A guarantor home loan requires a guarantor (usually a close relative of yours) to agree to use a property they own (eg investment property or home) which has equity as additional security.

Pro

Guarantor home loans can be a way to get into the market sooner. Because you have someone offering additional security for your loan, you can purchase with a smaller deposit to avoid the need for Lenders Mortgage Insurance.

Con

Getting a guarantor for your home loan means you’ll need to ask someone to put their own home’s equity up as security. A Guarantor needs to fully understand the legal and financial implications of being a Guarantor. As such it’s recommended independent legal and financial advice is sought prior to entering a Guarantor contract.

Line of credit loan

A line of credit loan gives you access to a set amount of credit whenever you need it. The loan is usually secured against the equity you have in your home and functions similarly to a credit card - you have a set limit of credit and you can borrow money up to that amount at any time with interest charged on the outstanding balance.

Pro

Line of credit loans are normally easier to obtain than other forms of debt. They also offer you the convenience of being able to borrow funds anytime you need them. And because you are securing the loan against your home equity, you will generally pay a lower interest rate than other forms of debt.

Con

Because the loan funds are so easy to access, it can be easy for your line of credit loan to get out of hand if you aren’t disciplined with your finances. It’s also important to keep in mind that because a line of credit loan has no end date, which means the longer you take to pay back what you’ve borrowed, the more interest you will pay. And using home equity to secure your loan means that if you have trouble making your repayments you could lose that equity.

Get the type of home loan that's right for you

Need any help? Give one of our Qantas Money Home Loan experts a call on 1300 992 700. Our home loan specialists will be happy to talk through your options with you so you can decide on the type of home loan that’s right for you.

^* You have to be a Qantas Frequent Flyer member to apply for the Qantas Home Loan. This information has been prepared without considering your objectives, financial situation or needs. You should consider your circumstances before acting on this information.