A tale of two families and the difference a loan structure makes

As someone who is usually always questioned on interest rates, I want to illustrate why it is never that simple using a single point of reference for a mortgage.

I’ll illustrate it with the case of Smith versus Smyth.

The Smiths are good negotiators and drive a hard bargain with their bank, meaning they get 0.6 per cent off the interest rate at any point in time.

So if I use an interest rate of 6.5 per cent as a long-term average, their rate is 5.9 per cent.

The Smyths on the other hand understand that having a good loan structure is important. They prioritise this and set up their loan so as to utilise their income to attack their interest rate.

Both couples start with a $400,000 mortgage, which would require monthly payments of $2528 at 6.5 per cent.

Their end result is paying off their mortgage 9.5 years earlier and saving $165,000 in interest, despite having a higher interest rate.

The Smiths get their lower interest rate of 5.9 per cent and use the interest savings, $155 a month, as extra repayments.

This means they still pay $2528 a month but this consists of an extra $155 a month on top of the required minimum payment.

The end result is paying off their mortgage more than four years faster and saving $134,000 in interest.

The Smyths have their loan structure utilising all their income and also have a surplus of $100 a month, which is automatically used to reduce some of their interest cost.

Their end result is paying off their mortgage 9.5 years earlier and saving $165,000 in interest, despite having a higher interest rate.

Now, if the Smyths also secured an interest rate discount of 0.6 per cent and kept their loan structure they would pay off their mortgage 11 years faster and save $232,000 in interest.

Asking for a good interest rate is relevant, but not getting a good loan structure is going to be the more costly mistake.