It was the rate relief news many Australians have been waiting for, as the Reserve Bank of Australia (RBA) slashed rates by 50 basis points at its May meeting. But it will count for little if the banks fail to pass on the cut and millions of variable rate mortgage customers are still waiting to see what they will do.
If your bank passes on at least some of the rate cut, you will find that your repayments are automatically lower by the end of the month.
For homeowners with a $400,000 mortgage, for instance, and paying a rate of 6.64 percent before the RBA decision, monthly repayments would have been about $2565 (based on a loan term of 30 years). If a lender passed on the full 0.5 percent reduction, you'd be now paying 6.14 percent, and monthly repayments would go down to $2434, a saving of $131 per month.
The big decision is what to do with any extra cash this change generates.
If you've got a renovation project in mind for your home, or you're thinking about redecorating, or simply updating your living space for a new season, now might be the time to do it.
In the week before the RBA announcement RateCity estimated that a mere 25 basis point cut would inject a whopping $55 million per month for struggling retailers. So don't feel too bad about spending some of your extra savings.
But if you choose to put the savings into your home loan, by keeping repayments at the previous level of $2565, the extra $131 goes straight into reducing the loan principal and so the amount of interest being charged goes down. The effect of this would be to reduce the interest payments over the life of the loan by more than $72,000 and you'd be able to repay the loan in just over 26 years, instead of 30. To see how much you could save by maintaining higher repayments, try using RateCity's mortgage calculator.
It might seem surprising that a relatively small amount of money - literally, just over $4 per day - can have such a big impact. But because you're reducing the principal of the loan faster, you reduce the base of which interest is charged.
Some homeowners will need the extra money to deal with other costs in their life, so reducing repayments is understandable. But if the big issue is that you can't afford to keep repayments at the previous level because you were already struggling with cash flow, then the answer may be to refinance into a lower-rate loan.
So what will you do with the rate cut? We'd love to hear your thoughts on the topic!