Home Loan Repayments Explained: How Mortgages Work in Australia
Published by SWIFT ACCOUNTANTS PTY LTD · Last reviewed
A home loan is the largest financial commitment most Australians ever make, yet the mechanics of how repayments work are rarely explained clearly. This guide breaks down how repayments are calculated, how interest accumulates, how extra repayments help, and what offset accounts do.
How Monthly Repayments Are Calculated
A standard principal and interest home loan uses an amortization calculation. Every month, interest is charged on the outstanding loan balance, and your repayment covers that interest plus a portion of the principal. Early in the loan, most of your repayment goes toward interest; in later years, more goes toward principal.
The formula is: M = P × [r(1+r)^n] / [(1+r)^n − 1]
- P = loan principal (amount borrowed)
- r = monthly interest rate (annual rate ÷ 12)
- n = total number of monthly payments (years × 12)
- M = fixed monthly repayment
The repayment is fixed for the life of the loan (on a variable rate, it changes when the rate changes). What changes each month is the split between interest and principal: as the balance falls, less interest is charged, so more of each repayment goes toward principal. This is called amortization.
Repayment Examples by Loan Size and Rate
| Loan Amount | Rate | Term | Monthly |
|---|---|---|---|
| $400,000 | 5.5% | 30 years | $2,272 |
| $500,000 | 6.0% | 30 years | $2,998 |
| $600,000 | 6.0% | 30 years | $3,597 |
| $700,000 | 6.25% | 30 years | $4,309 |
| $500,000 | 6.0% | 25 years | $3,222 |
Approximate figures only. Use our loan calculator for exact figures with your specific loan details.
How Amortization Works
In the early years of a 30-year loan, the vast majority of each repayment covers interest. This is a common source of surprise for new homeowners. On a $500,000 loan at 6%:
- Month 1: Of your $2,998 repayment, approximately $2,500 is interest and only $498 reduces the principal
- Year 5: Still roughly 80% of each repayment goes to interest
- Year 15: The split becomes closer to 60% interest, 40% principal
- Year 25: Most of each repayment is reducing principal
This structure means that making extra repayments early in the loan has a much greater impact than making them later — because the interest savings compound over the remaining term.
The Power of Extra Repayments
Because home loan interest compounds monthly on the outstanding balance, any extra amount you pay off reduces the balance on which future interest is calculated. The effect snowballs over time.
Example: $500,000 loan at 6%, 30-year term
Most variable rate loans allow unlimited extra repayments with no penalty. Fixed rate loans typically allow up to $10,000–$20,000 per year in extra repayments before break costs apply. Check your specific loan terms before making large additional payments.
Offset Accounts and Redraw Facilities
These two features are often confused but work differently:
Offset Account
An offset account is a separate bank account whose balance is subtracted from your loan balance when interest is calculated. Money in the offset reduces interest but remains fully accessible — you can spend it freely. The more money you keep in offset, the less interest you pay. This is ideal for emergency funds and savings that you want to keep accessible while still reducing interest.
Redraw Facility
A redraw facility allows you to access extra repayments you have already made above the minimum. If you have paid ahead, you can "redraw" that excess to access cash. Redraw is slightly less flexible than an offset account — some lenders impose minimum redraw amounts or processing times, and redrawing restores the interest-accruing balance.
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