Mortgage Structure: what is it and have you got it right?

When it comes to financing a property, mortgages play a pivotal role in shaping your financial strategy. Whether you’re considering your mortgage structure for your own home, or for an investment property, the way you structure your mortgage in order to pay it back will form an important part of your overall investment strategy. 

The most important part of structuring your mortgage is… you. Working around your personal goals, your income, and your family requirements is the most critical aspect of structuring your repayments for your benefit. This article is intended as a helpful guide, but does not replace independent advice that specifically considers your situation. 

In this blog we’ll cover:

• What is Mortgage Structuring?

• Top five benefits of a well structured mortgage

• Examples Scenarios: splitting into 3, 4 or 5 sections

What is Mortgage Structuring?

Mortgage structuring is a term used where borrowers divide their mortgage into multiple portions. This method allows for greater flexibility of debt repayment, and can reduce the overall risk associated with interest rates moving up and down. Let's delve into the concept of mortgage structuring, the benefits of doing so, and examine how dividing your mortgage into 3, 4, or 5 portions can change your overall debt repayment. 

Top Five Benefits of a Diversified Mortgage Structure

1. Interest Rate Flexibility

By splitting your mortgage into several portions, you can assign different interest rates to each portion. For instance, you might fix the rate for one portion, opt for a variable rate for another, and perhaps even go for a split rate (part fixed, part variable) for another portion. This diversification can hedge against interest rate fluctuations, giving you an overall better average. 

2. Loan Term Variations

By dividing up your mortgage, each portion has its own repayment schedule. This allows you to align repayments with your cash flow or financial goals. For instance, you might accelerate payments on one portion to pay it off faster, while maintaining minimum payments on others. This can be useful if you anticipate changes in your financial situation in the future. For example, you might want a shorter term for one portion to pay off debt faster or a longer term for another to reduce monthly payments.

3. Risk Management

By splitting into multiple portions, you can achieve a more diversified risk removing the impact of the above mentioned aspects: interest rate and repayment term. For instance, if interest rates rise, the impact on your overall mortgage payments may be mitigated if only a portion of your mortgage is subject to a higher rate. Similarly, your risk is reduced by splitting the terms across one, two, or three year repayment periods. 

4. Tax Optimisation

Structuring your mortgage into multiple portions allows for strategic tax planning. Depending on your situation, you might be able to deduct interest payments differently across the portions, potentially maximising tax benefits. This is a good conversation to have with your accountant to evaluate the tax implications of a well structured mortgage. 

5. A tool in your Financial Strategy

Each portion of your mortgage can be viewed as a separate financial instrument. This can empower you to adopt different investment strategies or allocate funds towards other financial goals, leveraging the flexibility of each portion's terms.

Example Mortgage Structure Scenarios: 3, 4 or 5 portions?

So how would this work in practice? Well, since everyone has a unique situation, we’ll use a baseline scenario and show the outcomes of splitting this mortgage into 3, 4 or 5 portions. For this example, we’ll use a mortgage of NZD $550,000 - which happens to be the average mortgage of New Zealanders at the time of writing. We will also use average interest rates current to the time of writing, July 2024. 

Example #1: 3 portions

For our first example, we’ll divide the total mortgage into three portions, the first assumes a revolving credit facility using floating interest rates, and the second two portions using fixed loans. 

Total mortgage $550,000:

Loan 1 Floating: $50,000 @ 8.41%, 30 years

Loan 2 Fixed: $250,000 @6.85% for 2 years, 30 year term

Loan 3 Fixed: $250,00 @6.35% for 3 years, 30 year terms

Repayments: $3576 monthly

Interest paid: $737,003

Total paid: $1,287,003

Example #2 - 4 portions, saves $16, 401 of interest

In this example, we’ve added a fourth portion of mortgage on a four year rate. Generally speaking, longer term rates are more attractive at the time, but it’s difficult to predict what an attractive interest rate may be in four years. Splitting your loans means you can take advantage of attractive short term rates when they become available. In this scenario, our home owner has saved $16,401 of interest across the life of the loan (compared with example #1). 

Total $550,000:

Loan 1 Floating: $50,000 @ 8.41%, 30 years

Loan 2 Fixed: $100,000 @6.85% for 1 years, 30 year term

Loan 3 Fixed: $150,00 @6.49% for 2 years, 30 year term

Loan 4 Fixed: $250,000 @6.29% for 4 years, 30 year term

Repayments: $3530 monthly (saves $46/month)

Interest paid: $720,602 (saves $16,401 of interest to the bank)

Total paid: $1,270,602

Now while $16, 401 doesn’t sound like much out of a $1.2 million dollar loan, that is $16k that you effectively keep, or don’t pay the bank. Let’s take this a step further. 

Example #3 - 5 portions, saves $42,000 of interest

For our final example, we have added a fifth portion, and in doing so have reduced the amounts of each loan to spread this across the five different mortgages. As you can see, we’re now spreading our risk, and the overall benefit is a whopping $42,000 saving when we compare this with scenario #1. 

Total $550,000:

Loan 1 Floating: $30,000 @ 8.41%, 30 years

Loan 2 Fixed: $80,000 @6.85% for 1 year, 30 year term

Loan 3 Fixed: $120,000 @6.49% for 2 years, 30 year term

Loan 4 Fixed: $160,000 @6.29% for 4 years, 30 year term

Loan 5 Fixed: $160,000 @5.99% for 5 years, 30 year term

Repayments: $3459 monthly (saves $117/month from example #1)

Interest paid: $694,963 (saves $42,040 of interest to the bank)

Total paid: $1,244,963

As you can see, the risk is further spread across these five loans and now we have saved over $42,000 on interest repayments across the life of the loan. Think about what you could do with the extra $42k? Does this buy you one less year of working? Or allow you to drop to part time? This is a meaningful amount on the same amount of mortgage as in example #1. 

Considerations and Conclusion

Before diving into mortgage structuring, it’s essential to assess your financial goals, risk tolerance, and the prevailing interest rate environment. While structuring can offer flexibility and some savings in the long run, it may also involve additional administrative costs and complexities compared to a traditional mortgage. It’s really important to gain specific advice that takes into account your whole situation. 

As you navigate the complexities of homeownership and mortgage financing, consider the merits of structuring your mortgage into multiple portions. It could pave the way towards a more tailored and effective financial strategy suited to your unique circumstances.

Ultimately, mortgage structuring can be a powerful tool in managing your financial future.