Should you consolidate your debt when refinancing your home loan?

Households scrambling to keep up with rising repayments are refinancing at record levels.

One million borrowers have already transitioned from fixed to variable rates, and outgoing Reserve Bank of Australia (RBA) boss Philip Lowe predicts that a similar number will make the transition over the next 18 months.

This is increasing the number of mortgagees battling higher mortgage-to-valuation ratios on their home, according to non-bank lender Anthony Ferraro of Salvest Finance.  

“This change in valuation ratios will materially affect the way in which affected mortgage holders respond to rising rates, via either mortgage refinancing or selling their property,” he says. 

Meanwhile, home owners are being squeezed by a number of different pressure points amid cost-of-living pressures. 

The highest number of purchases ever made on plastic occurred in June, pushing total credit-card debt up by $178 million to a staggering $40.5 billion – the fourth month in a row it has risen.

Cash advances also grew to $436 million, a 1.16 per cent increase on the same month last year. 

“Emergency savings have been wiped out in some households and expenses feel out of control, resulting in an over-reliance on credit as people struggle to manage the cost of living crisis,” says Finder credit card expert Amy Bradney-George. 

Refinancing rates rise

In an attempt to reduce monthly payments, refinancing enquiries from Australian mortgage holders with a loan-to-value (LVR) ratio of 90 per cent or more – which makes refinancing difficult or even impossible – is now at its highest level since interest rates began to rise, according to Compare Club. 

A comparison of data between June 2023 and March 2022 – before the RBA raised the cash rate by 4 per cent – shows that the number of refinancing enquiries from home owners with a 90-per-cent-plus LVR has more than tripled. 

Compare Club head of research Kate Browne says refinancing enquiries have grown each month alongside interest rate rises as mortgage holders roll off fixed-term loans. 

She says it’s good that more households are getting the message that it’s worth seeing if they can refinance amid a healthy dose of competition between lenders, including cash-back offers. 

“Refinancing these days is pretty quick and easy; for a few hours of effort you could save thousands of dollars,” Browne says. 

“What is concerning is that we’re also seeing the number of people unable to meet serviceability requirements now, due to having a loan-to-value ratio of over 80 per cent.”

Banks are far less likely to offer competitive rates to people with an LVR of 80 per cent or above and will insist the home owner also pay thousands more to cover the cost of lender’s mortgage insurance.

This has the effect of locking people into a “mortgage prison” as they are unable to access lower interest rates, stretching their household budgets to breaking point, Browne says. 

What is debt consolidation?

While home owners are refinancing, many are contemplating consolidating all their household debt into one monthly payment. 

Households paying loans across a range of debts such as credit cards, car loans and personal loans can roll the debt into one personal loan to lower the interest rate, enabling them to pay off the debt sooner. 

The advantages

Rolling your debts into one loan can simplify your repayments and help reduce the interest you pay over the long term, Mozo money expert Rachel Wastell says. 

Higher interest rates of up to 20 per cent could be rolled into a lower single repayment which can be easier to track, reducing the risk of incurring late fees from missed payments, she says. 

But look beyond the interest rate when comparing debt consolidation loans. Upfront administration fees, ongoing fees and additional fees if you decide to pay the loan out early can eat into any savings, according to the money savings website Mozo. 

The time it takes to consolidate depends on how many debts you have, and whether you choose a lender that consolidates the debt for you. As always, shop around, Wastell says. 

The downside 

Consolidating debt can help households get through the current high-interest-rate environment and can lower repayments, says independent mortgage broker and credit advisor Rebecca Jarrett-Dalton. 

But bear in mind that you could end up paying off that pair of jeans you bought on plastic six months ago for the next 30 years, warns the owner of Two Red Shoes.  

Merging debt into your home loan means that you may be left paying more interest over the longer term because home loans traditionally run over 20 or 30 years. 

“You’re going to be paying off consumer debt that’s been well and truly spent for a longer period of time, which means your interest on that item is going to be substantially more over the longer term,” Jarrett-Dalton says. 

Browne adds that anyone in mortgage distress should contact their lender to work with its hardship team, who may be able to hold or reduce repayments to lessen the load.