As part of numerous measures to curb access to credit, the banks have started to restrict the availability of revolving credits—mainly around the size of accessible limits, and linked to the LVR (loan to value ratio).
What is a revolving credit? (also known as a flexi facility)
A revolving credit is like an overdraft or credit card, but interest is charged at floating mortgage rates and secured against property. So you have a limit that you can draw up to e.g. $25,000 and you are charged interest on any negative balance in the account. It’s set up as ‘interest only’ so the limit remains at the set amount and you manually make principal payments. Often people use this as a way to offset surplus funds against the mortgage, but very few have the discipline to use it properly. The idea being that if your income per month is, for example, $6,000 and expenses and other loan payments are $5,000 per month, your $1,000 per month surplus is reducing the negative balance every month and saving you in interest costs. So it’s more cost effective to have that $1,000 a month surplus saving you on mortgage interest than earning a small credit interest in a savings account. Some people also use a credit card in conjunction with the revolving credit, by using the interest free period on their credit card and then paying it off monthly from the revolving credit. That way their monthly income (i.e. salary) going into the revolving credit keeps the balance lower for longer.
What are the positives of a revolving credit?
If used properly, it can help you get mortgage free quicker. Often you set the account limit at a level where you can get the negative balance to zero in say a year, then redraw the savings, make a lump-sum payment off your fixed-rate loans and then start the process again. It can be a useful tool for preserving a buffer of available credit for emergencies, business purposes, deposits on rental purchases etc., without having to apply for money from the bank. You can make lump sum payments off the negative balance e.g. from over-time or bonuses, without being penalised, plus still have the ability to access that money after putting it into the loan account.
What are the negatives of a revolving credit?
It will be on a higher floating interest rate, so needs to be used as it’s intended in terms of saving money on your mortgage and accumulating surplus funds. Managing a revolving credit facility requires strong discipline. Most people, in my experience, get tempted to redraw the cash and have a constant balance near the limit on a higher floating rate. If your LVR is over 80% then the banks will limit availability of this product. You may also be restricted now as to how big a limit you can actually have as banks get tougher on lending criteria.
Revolving credits are not for everyone, they can be useful but require discipline.