Most investment property loans allow extra repayments on variable rates but restrict them on fixed rates.
If you own an investment property in Preston or you're planning to buy one, the decision between a fixed and variable rate affects more than your monthly interest bill. It determines whether you can make extra repayments, how quickly you can reduce debt, and what happens if you need to exit the loan before the fixed term ends. Many investors assume a fixed rate simply means certainty, but the structure you choose has implications for your broader property investment strategy.
Why Extra Repayments Matter for Property Investors
Extra repayments reduce the principal balance, which lowers the interest charged over the life of the loan. On a variable rate investment loan, you can usually make unlimited additional repayments without penalty. On a fixed rate, most lenders cap extra repayments at around $10,000 to $30,000 per year, depending on the lender and product. Exceed that cap and you may face break costs or forfeit the extra amount until the fixed term ends.
This restriction exists because lenders lock in funding at a fixed cost when they issue your loan. If you repay early, they lose the expected interest income and may need to reallocate funds at a loss. The shorter the remaining fixed term and the lower current rates are compared to your fixed rate, the higher the potential break cost.
How Fixed Rate Break Costs Are Calculated
Break costs are calculated based on the difference between your fixed rate and the lender's current wholesale funding rate for the remaining term, multiplied by the amount being repaid early. If rates have dropped since you fixed, the lender has lost income and will charge you to recover that loss. If rates have risen, there may be no break cost at all, and in some cases the lender may even credit you.
Consider an investor who fixed a $600,000 loan on a Preston townhouse at 5.8% for three years. Two years in, they sell the property. If wholesale rates have fallen to 4.5%, the lender will charge a break cost to compensate for the lost margin over the remaining year. That cost could range from $5,000 to $15,000 depending on the lender's funding arrangements. If rates had instead risen to 6.5%, the break cost would likely be zero.
Split Rate Structures for Flexibility and Certainty
A split loan divides your borrowing between fixed and variable portions, typically 50/50 or 60/40. The variable portion accepts unlimited extra repayments, while the fixed portion provides rate certainty. This structure suits investors who want to lock in part of their repayment while retaining the option to pay down debt faster if cash flow allows.
For an investor buying in Preston's established market, a split structure might mean fixing $400,000 at a set rate for three years and leaving $200,000 on a variable rate with an offset account linked to it. Rental income and any surplus funds can sit in the offset, reducing interest on the variable portion without triggering break costs. If the property performs well or the investor receives a bonus or tax refund, they can direct those funds to the variable split without restriction.
Interest Only Investment Loans and Repayment Timing
Many investment loans are structured as interest only for an initial period, usually up to five years. During this time, the borrower pays only the interest component, keeping repayments lower and maximising cash flow. Once the interest only period ends, the loan reverts to principal and interest, and the repayment increases.
If you have a fixed rate interest only loan, you generally cannot make principal repayments during the interest only period without those payments being treated as excess repayments. Some lenders allow them up to the annual cap, others do not allow them at all. If your goal is to reduce the loan balance during the interest only period, a variable rate or a split structure is more suitable.
Preston's Rental Market and Cash Flow Considerations
Preston's proximity to the CBD, accessibility via the Mernda line, and ongoing residential development have made it a consistent choice for investors targeting inner northern Melbourne. The suburb attracts a mix of students, young professionals, and families, which supports a relatively stable rental market. However, vacancy rates and rental yields vary depending on property type and location within the suburb.
If your Preston investment property generates strong rental income and you plan to hold it long term, fixing a portion of the loan can protect you from rate rises while still allowing some flexibility through a variable split. If cash flow is tighter or you expect to sell or refinance within a few years, a fully variable loan or a shorter fixed term may be more appropriate. Locking in a five-year fixed rate without the option to make extra repayments can limit your ability to respond if your circumstances change.
Tax Deductibility and Investment Loan Structure
Interest on an investment loan is generally tax deductible, but principal repayments are not. This distinction matters when deciding how to allocate surplus funds. If you have both an owner-occupied home loan and an investment loan, paying down the non-deductible home loan first is usually more tax effective, provided you have the flexibility to do so.
Fixed rate loans do not change the tax treatment of interest, but they do affect your ability to adjust the loan structure over time. If you want to access equity for future purchases or refinance to a different product, a fixed rate loan may require you to pay break costs or wait until the fixed term expires. This is worth considering when planning your property investment strategy, particularly if you intend to grow a portfolio over the next few years.
When Refinancing an Investment Loan Makes Sense
If your fixed rate term is nearing its end, or if you are currently on a variable rate and considering a switch, refinancing your investment loan can provide access to lower rates, better features, or more flexibility. Many investors refinance to consolidate debt, access equity for another purchase, or move to a lender that offers higher extra repayment limits on fixed rates.
Timing is important. Refinancing during a fixed term will trigger break costs, so it is usually advisable to wait until the fixed period expires unless the savings from the new loan clearly outweigh the exit costs. A mortgage broker can model the numbers and help you determine whether refinancing makes sense in your situation.
The rules around negative gearing and capital gains tax have changed for properties acquired after Budget night in May last year. If you bought an established property after that date, negative gearing deductions from 1 July this year will only offset income from residential property, not other income sources like wages. These changes do not affect properties bought before that date, and new builds remain exempt. Speak to a tax adviser if you are unsure how the changes apply to your circumstances.
If you are weighing up fixed versus variable rates for an investment property in Preston, or you want to review your current loan structure, call one of our team or book an appointment at a time that works for you.
Frequently Asked Questions
Can I make extra repayments on a fixed rate investment loan?
Most lenders allow extra repayments up to a cap, usually between $10,000 and $30,000 per year. Exceeding this limit may trigger break costs or the repayment may be held until the fixed term ends.
What are break costs on a fixed rate investment loan?
Break costs are fees charged by lenders if you exit or significantly repay a fixed rate loan early. They are calculated based on the difference between your fixed rate and current wholesale funding rates for the remaining term.
Is a split loan structure suitable for investment properties?
A split loan divides your borrowing between fixed and variable portions, giving you rate certainty on one part and repayment flexibility on the other. This suits investors who want both stability and the option to pay down debt faster.
How do interest only loans affect extra repayments?
On an interest only loan, you typically pay only interest during the initial period. Extra principal repayments may be allowed up to a cap on fixed rates, but some lenders do not permit them at all during the interest only term.
When should I refinance my investment loan?
Refinancing makes sense when your fixed term is ending, or if you can access lower rates or better features on a variable loan. Refinancing during a fixed term usually triggers break costs, so timing is important.
