April 2023 OCR Announcement
On 5 April 2023, the Reserve Bank increased the OCR by 50 basis points, moving it from 4.75% to 5.25%. So what is the OCR and what it means is discussed in this article. The OCR (Official Cash Rate), is the rate at which banks borrow money from the RBNZ. This has an impact on mortgage interest rates. The OCR was expected to be hiked by only 25 basis points resulting in the financial market being caught off guard and resulted in increased mortgage payments. We look at some strategies to take some pressure off repayments.
How then, does this change impact your mortgage, and when are the next announcement dates?
OCR announcement dates for 2023 are as follows:
- 24th May – Monetary Policy Statement & OCR
- 12th July – Monetary Policy Review & OCR
- 16th August – Monetary Policy Statement & OCR
- 4th October – Monetary Policy Review & OCR
- 29th November – Monetary Policy Statement & OCR
Why did The Reserve Bank raise the OCR?
Firstly, it is essential to understand that OCR increases are frequently a reaction to growing inflation. Inflation occurs when there is too much money chasing too few goods and services, causing prices to increase. To combat this, the RBNZ boosts the OCR to encourage people to save more and borrow less. In turn, this reduces spending and drives down inflation.
Consequently, the OCR was raised at the most recent announcement. The Reserve Bank’s goal in the medium term is to reduce inflation from the current 6.7% to the target range of 1% – 3%.
The Reserve Bank explained that a 50-point hike in the OCR was necessary to raise the deposit interest rates to a level that would encourage people to save instead of spending. They were happy with the lending rates and didn’t intend for them to increase.
What does the April 2023 OCR announcement mean for mortgages?
Shorter-term lending rates have increased while longer-term rates have continued to decline since the banks had previously taken OCR rises into account.
We understand rising interest rates could be very scary for most homeowners. We discuss some illustrative examples or strategies to reduce repayments. If you are worried about your mortgage due to this development or are about to refix and want to understand how to consider the latest developments, please do not hesitate to contact us. We can examine your existing mortgage to ensure its structured correctly to mitigate the impact of interest rate fluctuations.
Getting through the tough times by reducing monthly repayments
Illustrative examples or strategies below to reduce repayments has been determined using our own user friendly calculator.
The scenarios may or may not be relevant to your situation since everyone’s situation is unique and there is not a blanket solution for all. No one strategy is suitable for any situation, and it is therefore vital to follow guidance provided by the specialists. We will look at loan period extension; paying only interest and taking a break from payments:
Strategies to reduce repayment:
Extending the period of the loan may reduce the repayments
- Let us use the following loan example:
$750,000 @ 4.5% over 20 years = monthly payment of $4,745 approx.
- Principal and interest payments
- If you extend the loan term to 30 years, your new monthly payment would be $3,800
- Your monthly commitment is $945 less.
Whilst this is saving in the short term to tide you over during challenging times, you have extended the length of time to totally repay your loan. On the flipside, this will increase the overall interest costs over the term of the loan. This is best only a short-term option.
- Most banks will limit the length of time you can extend the loan term for. It is a good idea to revert to the original loan term as soon as you.
- So while extending your loan term can deliver a quick, short-term reduction in your household expenditure it will prove expensive.
Changing to interest only
- Let us use the same loan example:
- 750,000 @ 4.5% over 20 years = monthly payment of $4,745 approx.
- If you change to interest only, your new monthly payment would be $2,813 interest only.
- You have reduced your monthly commitment from approx. $4,745 to $2,813, which is a difference of $1,932.
- You have extended the length of time it will take to totally repay your loan by the length of the interest only period. This will increase the overall interest costs.
- In the example above, if you selected a 6-month Interest only period, you will have increased the cost of your mortgage by $16,878 (6 months of $2,813 Interest Only payments).
- This means you’ll pay more interest in the long term, as you aren’t reducing your principal for the agreed interest only period. On the upside though, the balance owed does not go up like it does under the loan repayment holiday option (explained below).
- Most banks will limit the length of time you can have on interest only and it is a clever idea to revert back to paying the principal off the loan as soon as possible. Switching to an interest-only loan is another way to reduce your monthly mortgage repayments. But, once again, it is only a short-term solution
As its name suggests, an interest-only home loan involves paying only the interest charges on the loan, and not paying down the principal loan amount.
This is why interest-only loans is an option usually favoured by property investors aiming to make capital gains through property speculation.
Mortgage repayment holiday
- Let us use the same loan example:
- $750,000 @ 4.5% over 20 years = monthly payment of $4,745 approx.
- A mortgage holiday is a break from your loan repayments; the amount you owe will increase and your loan continues to accrue interest.
- When you defer the monthly loan payments, you are adding the interest payments to your loan balance.
- The above $750,000 loan has a monthly payment of $4,745, which includes $2,813 of interest.
- Each month you stay on mortgage repayment holiday, the interest you would have paid is added back onto to the loan balance. You will now be paying interest on the new adjusted loan balance for the period that your home loan is on mortgage holiday. This may bring short term relief , however, is not a sustainable option.
- Thus, this “holiday” might not really be as fun as it first sounds!
- No doubt a repayment holiday may offer peace of mind initially – but it is not a long-term solution. During your repayment holiday period, the interest continues to accrue and added to your home loan balance. This is also known as interest capitalisation. At the end of the “holiday” period, your home loan balance would have increased.
- Most banks will limit the length of time you can have a mortgage repayment holiday to 3-6 Months.
These are unprecedented times for all of us and the high cost of living does not make things easier. Many of us are feeling the additional pinch with high repayment commitments.
All of these options may help free up as much ‘cash’ as possible, but this privilege comes at a cost. That is why each option needs careful consideration. It is advisable to seek advice from our qualified and experienced mortgage specialist who will look at all other options as well and provide you with the best options for your situation.