Overpayment and redraw facilities

Although the word 'mortgage' comes from the Old French for 'death pledge', these days there are ways to make your mortgage work in your favour. Particularly, if used correctly, overpayment and redraw facilities are just two options which give flexibility and can enable you to have a mortgage that's easier to manage.

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Overpayment - making additional repayments

Most mortgage products will allow borrowers to make extra repayments. By paying more off your mortgage than the required periodic minimum, you can save money in the long term by decreasing the amount of interest you pay over the duration of the mortgage and shorten the time needed to finish paying it off. You can do this overpayment in two ways:

• Increase the amount you pay

By increasing the amount you pay, whether weekly, fortnightly or monthly and even by a small sum, such as $5 or $10 a payment, can make a significant difference to what you will save on interest over an extended period of time. This is explained by Dean Gillespie, head of mortgages at BankWest. "Overpayment facilities allow borrowers to pay more money into their home loan account than they're required to for their minimum monthly repayments, making the loan balance lower than it's contractually required to be."

• Lump sum payment

The other way is to make a lump sum payment off your mortgage in addition to your regular payments. Whether the lump sum is your tax refund, a bonus or a generous gift, it's worth using it as an overpayment on your mortgage. This holds true even if it is not a large amount. The long-term benefits of the short-term strategy of putting financial windfalls towards repaying your mortgage can be very rewarding. Paying any extra into your loan is always an advantage, no matter what method you use. An overpayment facility offers a convenient system that can help you save on your overall mortgage.

"This type of facility can definitely allow borrowers to save on their mortgage. By paying more than the minimum required, customers reduce their loan balance, and so reduce the amount of interest they must pay over the life of the loan," says Mark Jones, banking portfolio manager at AMP. "If you get a $50 a month pay rise and use it as a regular additional payment off your mortgage, you'll save $68,183 on your home loan, and reduce the loan term by two years and 10 months."

It's possible to model scenarios using Repayment Calculators found on finance and banking websites.

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Redraw or Offset facilities

Paying extra money that you have into your home loan may be an easier decision when you know you have the ability to withdraw this additional money at a later date. A redraw facility allows you to withdraw the additional money you've put into your mortgage repayments, whether this has been an additional amount with each repayment or one - off repayments. It's important to note that redrawing your additional repayments will reduce the benefit of making additional repayments. However, knowing that you're able to redraw additional repayments if necessary can give you the confidence to increase the amount of money you pay.

"A redraw facility is an additional feature which allows borrowers to take money back out again to use whenever the need arises," says Gillespie. "The ability to pay extra money into a mortgage is a fantastic way to save interest and potentially reduce the loan term, and the redraw allows convenient access to funds if they're needed later."

Understanding redraw facilities

As the terms and conditions of redraw facilities differ significantly among lenders, it's important to understand what redraw involves before you take out the loan. When considering a product with a redraw facility, make sure you ask the following questions:

• Is a fee charged when this facility is first 'activated'?
• How many redraws can be made each year or month before a fee is charged?
• What is the fee per redraw?
• Is there a maximum number of redraws that can be made each year?
• What is the minimum amount that can be redrawn?
• What is the maximum amount that can be redrawn?

It doesn't usually cost any extra to have a redraw/overpayment option as part of your home loan, but some banks or lenders might charge for over-the-counter transactions when you redraw.

"Generally, overpayment/redraw facilities are available on most variable rate loans, although if customers are going to deposit large amounts of money into it, they should make sure they don't choose a lender who charges deferred establishment fees," Gillespie warns. "Also, fixed rate home loans generally have a maximum amount that you can deposit into the loan per year, such as $10,000; otherwise a fee is charged. "It generally doesn't cost anything to have redraw added onto a loan, but customers might pay for each time they use it. Some banks charge a fee for transactions over the counter while other banks offer online free redraw."

The fee per redraw

The fee per redraw is the amount a borrower must pay each time they withdraw funds from their loan account using the redraw facility. This fee varies significantly between lenders and loans. Some lenders charge up to $50 per redraw, while others do not charge. Some redraw facilities grant the borrower a number of free redraws per year. Once the quota of free redraws is exceeded, the borrower must pay a fee per redraw.

Offset accounts offer an alternative way of deriving the same benefits. Read more in our article on offset accounts.

In summary

Basically, different loans have different facilities, so when choosing their loan, borrowers should talk to their broker and get the loan that suits them.

But remember, this freedom can cut both ways. Industry experts warn that you need a certain level of self control with re-draw to keep from dipping into your 'extra funds' too often. "A problem only arises if you take money out and do something with it that you didn't really need to, such as purchasing a 'want', not a 'need'," says Lisa Montgomery, head of marketing and consumer advocacy at RESI Mortgages. "However, most redraw facilities actually have a minimum, anyway, that you can redraw, such as $1,000 or $2,000. So people generally don't treat it as a transactional account, and instead tend to look at it as a sort of savings account that's doing them good and that they want to see grow."

And finally, it really depends on each person's individual circumstances with redraw facilities, as you are still expected to make the minimum required repayments on loans, but these facilities provide far greater flexibility for you in how you use your funds and, if used well, they can save you on overall interest payments in the longer term.