Buying a home or property often requires borrowing money from a lender, and calculating interest on a home loan is an important step in working out how much your monthly payments will be.
Your loan repayments are made up of two parts: principal repayments and interest repayments. The principal is the set amount of money you borrow to finance your property, and principal repayments refer to the payments you make to your overall loan balance. Calculated interest is the annual cost for borrowing said amount.
Your interest repayments have the biggest impact on your monthly repayments and the overall amount of pay back on your home loan.
Continue reading to learn more about how mortgage interest works, how interest rates are calculated on a home loan and how interest can affect your mortgage.
How is home loan interest calculated?
Home loan interest is the annual cost of borrowing your principal loan amount. This means that your interest, or how much you pay annually in costs, is dependent on the amount of money you have borrowed.
Your interest is usually expressed in a term of percentage, called the Annual Percentage Rate or APR. At Homestar Finance, we’ll take your principal loan amount and multiply it by your interest rate. Since APR is calculated by year, we will then divide this amount by 365 (or 366 for leaps years) days.
To give you an example, you have a loan or principal amount of 300, 000 and an interest rate of 4%. Your interest will be calculated as: (300,000 x 4%) divided by 365 = $32.91.
To calculate your interest repayments on a monthly basis, simply multiply the calculated daily interest by the number of days in the month. For example: $32.91 x 31 = $1019.18 monthly interest repayment.
If you want to avoid doing any maths, use our home loan repayment calculator to calculate your interest amount in seconds.
If you’re unsure where to begin with your home loan, have a chat with one of our loan specialists, who are qualified to answer any questions you have about home loans, interest rates and how to calculate your own home loan interest by filling our enquiry form.
Which factors influence how much mortgage interest I pay?
There are a number of factors that influence how much mortgage interest you will pay:
- Home loan interest rate
- RBA official cash rate
- Amount borrowed
- Outstanding loan amount
- Number of days in the month
- Loan term
- Repayment frequency
- Principal and interest vs interest only repayments
The home loan interest rate
At Homestar Finance, our home loan interest rates are dependent on whether you are borrowing money for an owner-occupied home or an investment property. For both types of loans, there are several different rates based upon your choice to have a variable home loan or fixed home loan.
The Reserve Bank official cash rate
The interest rate on your Homestar Finance loan is always based on the official cash rate set by the Reserve Bank of Australia (RBA). This rate is set on the first Tuesday of each month. The official cost of borrowing helps us determine where to set the interest rates for our home loans. Take a look at the current cash rate to see how we compare.
The amount you borrow
The amount you borrow is one of the most important factors that influences how much mortgage interest you pay. In simple terms, the bigger the loan, the more interest you pay. However, at Homestar Finance, we’ve got options for those wanting to take out a larger loan amount, so make sure to speak to one of our loan specialists for more information.
The outstanding loan amount
As you gradually pay off your home loan, your interest payments will decrease with your loan balance amount. This means that your interest repayments when you first start out paying off a home loan will be much higher than when you’ve paid off half, as interest is calculated by loan balance.
The number of days in the month
At Homestar Finance, we calculate interest on your home loan as a daily interest charge and charge that amount to you each month. This means that your monthly repayments may differ depending on which month it is. If it’s February, you’ll only pay interest for 29 days, whereas in March you’ll repay interest for 31 days.
The loan term
Your loan term is the amount of time you have to pay off your loan. If you pay off your home loan over a shorter period of time, your interest repayments will be minimised.
Repayment frequency
Repayment frequency, or how often you pay your interest and principal depends on the type of loan you choose. Most often, your repayment frequency will be on a monthly basis, but we do offer weekly or fortnightly repayment schedules.
Principal and interest vs interest only
The final factor that can influence how much mortgage interest you pay is whether your loan repayments are for principal and interest amounts or for interest only. Principal and interest repayments are more common when paying off your mortgage and involves portioning out your repayment to pay off money you borrow as well as the interest you owe.
Some home loans allow for an interest-only repayment period, for the purposes of reducing your regular repayment amount. Reasons for having an interest-only repayment period can vary, such as building a new home or if you’re a property investor with an investment home loan.
Other considerations when calculating home loan interest
Another consideration for calculating home loan interest is the type of home loan you decide on. At Homestar Finance, we have several different options for fixed and variable rate loans, as well as three separate loan types for investment property mortgages.
A variable rate home loan refers to a mortgage where the interest you are charged can change as the market fluctuates. As the RBA official cash rate changes each month, so too can your interest rate increase or decrease in percentage.
A fixed interest rate means that the interest rate is stable and consistent. This stable rate can either be for the entirety of the loan term, or more likely, for a fixed rate period that is specified when signing your contract.
When thinking about which interest rate is better, it is important to consider what is more beneficial to you. While a fixed interest rate allows for a more rigid payment structure, the flexibility and accessibility of a variable interest rate might be better for you, and vice versa.
How much interest will I pay on my loan?
Of course, how much interest you will pay on your loan is dependent on the type of loan you choose, and is influenced by all the factors mentioned above. Take a look at our current home loan options (variable vs fixed, principal and interest or interest-only, investment or owner-occupied) for more information.
Calculating your interest is done through the formula: (principal x rate) divided by time = interest or (P X R) / T = I. Alternatively, head to our home loan repayment calculator to easily calculate your interest.
How is interest calculated on a home loan? Here is an example:
The principal amount of $500,000 and an interest rate of 3% is put into the formula, (500,000 x 4%) divided by 365 days = $54.80. To calculate your monthly interest repayment, multiply your daily interest charge by the amount of days in the month. For example, $54.80 x 30 = $1643.84.
Ways to save on home loan interest
There are many ways to save on the interest you pay on your home loan. Of course, getting the lowest interest rates possible is the best way to save, but there are other options that can benefit you in the long-run as well.
Consider an offset account
An offset account is a bank account that connects directly to your home loan. You can deposit your salary or savings straight into this account and then the balance will immediately offset the amount owing on your home loan. Having an offset account is a great way to save on home loan interest as the loan balance you pay interest on is reduced by the amount put into the offset account. This means that an offset account utilises the influence your outstanding loan amount has on your interest.
Make extra repayments
Of course, making extra repayments means that your loan balance will decrease in a shorter period of time. Your interest will decrease as your loan balance does, meaning that extra repayments help you save on interest in the long-run.
Make lump sum payments
A lump sum repayment is a large amount of money that exceeds your repayment charges that you would like put toward your home loan. You can offer to pay lump sum repayments if you have received a large sum of money, such as a tax return, inheritance, dividend payment or bonus. A lump sum payment can only go towards paying off the principal in your loan.
Pay both principal and interest
Making sure you pay off both your principal and interest each with each repayment, which will ensure your interest starts to decrease as your loan amount does.
Check our home loan repayment calculator
If you want to avoid doing any maths, use our home loan repayment calculator to calculate your interest amount in seconds.
Disclaimer: This article is not intended as legal, financial or investment advice and should not be construed or relied on as such. Before making any commitment of a legal or financial nature you should seek advice from a qualified and registered Australian legal practitioner or financial or investment advisor.
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Understanding more about how interest is calculated on a home loan
What is home loan interest?
Home loan interest refers to the annual cost of borrowing your principal loan amount.
The set amount of money you borrow to finance your property is called the principal. In addition to the principal is your calculated interest, which is the annual cost for borrowing said amount.
Your loan repayments are made up of two parts: principal repayments and interest repayments. Principal repayments refer to the payments you make to your overall loan balance. Your interest repayments have the biggest impact on your monthly repayments and the overall amount owed on your home loan.
How does home loan interest work?
Interest is usually expressed in a term of percentage, called the Annual Percentage Rate or APR. The interest you will pay for your home loan is calculated based on the amount of money you have borrowed (principal) multiplied by your interest rate.
Since APR is calculated by year, we will then divide this amount by 365 (or 366 for leaps years) days.
The formula for calculating interest is pretty simple: (principal x rate) divided by time = interest or (P X R) / T = I. To give you an example, you have a loan or principal amount of 300, 000 and an interest rate of 3%. Your interest will be calculated as: (300,000 x 4%) divided by 365 = $32.91.
What is a principal and interest loan?
A principal and interest loan is a mortgage in which your repayments are portioned out to go toward paying both your principal and your interest. A principal and interest loan is the most common option for a home loan.
Alternatively, an interest-only loan is where repayments only go toward paying off interest. This kind of mortgage can be used for those building a home, or investing in property with an investment loan, and is often for only for a specific time-period.
How do I calculate flat rate interest?
Calculating your interest is easily done through the formula: (principal x rate) divided by time = interest or (P X R) / T = I.
Alternatively, head to our home loan repayment calculator to easily calculate your interest.
How do I know what my interest rate is?
Your interest rate is determined by the type of loan you choose. At Homestar Finance, we have several options for home loans that include either a variable or fixed interest rate. You can view the different interest rates we offer for both owner-occupied and investment home loans here.
