Comparing Home Loans – This Small Oversight Can Cost You In The Long Run

By on April 23, 2013

One of the beauties of buying properties in Singapore is that you can use CPF to service the monthly mortgage payments. This means you can go about your lifestyle without a care in the world as your disposable income is not affected by your mortgage commitments. But the convenience of this also comes with a drawback. Because CPF make up of money that you are not going to touch, you can often neglect monitoring the monies that lenders are crediting you account until you receive the annual statement for your home loan.

You can have some peace of mind if you are on a loan that you are certain is the lowest in the market. However, you could be paying for a more costly mortgage if you are not careful when comparing them before accepting one in the first place.

As home loans are usually long term financial commitments, acquiring a customer is a big priority to lenders. Just imagine the act of acquiring a willing customer alone can mean 10 to 20 years worth of profits from interest charges. This is why a huge slice of a lender’s marketing budget can go to acquisitions alone. And you can find that lenders are most flexible before you become a customer. They move mountains, offer freebies, and even willing to take a loss just to acquire you as a customer. To drive home the point, lenders can expect to collect over $100k of interest charges for a $1m loan over 20 years even if the interest over 20 years is a constant 1%. And we all know that current interest rates of just over 1% is extraordinarily low and that it is as good as free money. Interest rates therefore are expected to go up. We also know that most people will take up loans of 25 to 30 years tenor.

comparison tablesSo in an effort to acquire more home loan customers in the toaster hot property market, many lender are offering mortgage packages that have very low mortgage rates in initial years of loan. On the surface, a lot of these conceptualized loan structures can look like a no-brainer for a first time home owner. For example

Loan 1
Year 1 SIBOR + 0.80%
Year 2 SIBOR + 0.80%
Year 3 SIBOR + 0.80%
Thereafter SIBOR + 1.25%

This does look attractive especially if you are aware of historical mortgage rates. When we put a competing mortgage beside this offer, the package with initial low rates still looks like a bargain. Why would anyone want to pay more than they have to on a product. And every lender is selling essentially the same product – money to complete your purchase transaction. There is also the option to refinance your mortgage after 3 years. Refinancing is after all always associated with costs savings and a strategy of savvy investors.

Loan 1
Loan 2
Year 1 SIBOR + 0.80% SIBOR + 1%
Year 2 SIBOR + 0.80% SIBOR + 1%
Year 3 SIBOR + 0.80% SIBOR + 1%
Thereafter SIBOR + 1.25% SIBOR + 1%

This is a mistake that you could be making. As firstly, a home loan is a long term loan commitment unless you are a speculator or flipper. The second is that refinancing in future may make no sense whatsoever. If we are to take a long term perspective on comparing the 2 loans, the new comparison table will look like this.

Loan 1
Loan 2
Year 1 SIBOR + 0.80% SIBOR + 1%
Year 2 SIBOR + 0.80% SIBOR + 1%
Year 3 SIBOR + 0.80% SIBOR + 1%
Year 4 SIBOR + 1.25% SIBOR + 1%
Year 5 SIBOR + 1.25% SIBOR + 1%
Year 6 SIBOR + 1.25% SIBOR + 1%
Year 7 SIBOR + 1.25% SIBOR + 1%
Year 8 SIBOR + 1.25% SIBOR + 1%
Year 9 SIBOR + 1.25% SIBOR + 1%
Year 10 SIBOR + 1.25% SIBOR + 1%
Year 11 SIBOR + 1.25% SIBOR + 1%
Year 12 SIBOR + 1.25% SIBOR + 1%
Year 13 SIBOR + 1.25% SIBOR + 1%
Year 14 SIBOR + 1.25% SIBOR + 1%
Year 15 SIBOR + 1.25% SIBOR + 1%
Year 16 SIBOR + 1.25% SIBOR + 1%
Year 17 SIBOR + 1.25% SIBOR + 1%
Year 18 SIBOR + 1.25% SIBOR + 1%
Year 19 SIBOR + 1.25% SIBOR + 1%
Year 20 SIBOR + 1.25% SIBOR + 1%

Does the first loan still look attractive when you look at the longer term?

The reasoning that refinancing might not work in future is that the current prolonged period of extremely low interest rates will not last forever. And since it is still hovering around it’s all time lows, it means that the only direction it can be moving from now on is up. In fact, if you think the mortgage rates now are low, you should have taken a look at them 2 years ago. It was even lower! Interest rates for property financing have been rising consistently since then.

Which one will entice a heart attack?

Which one will entice a heart attack?

So if you think that you can refinance your mortgage in 3 years time, you have to rethink that strategy. Because there is every likelihood that available rates in 3 years will be higher than what you will be paying at that point in time. In that event, it will make absolutely no sense indeed to refinance to a more expensive loan. However, you might have your own reasons to refinance to a more expensive loan.

As SIBOR and SOR fluctuates and is a common index that housing loans are pegged to, there is little you can do when they do rise. But the interest spread that go with mortgages is something that the lender determines. So a good option is to take up a mortgage package that has the lowest spread over the long term.

The drawback of taking loan 1 multiplies when you are buying an under construction property. Because new launches have staggered payments, you are not fully benefiting from low interest rates from initial years as payments are disbursed portion by portion. You will not be enjoying low rates for 100% of the loan. And if you are really unlucky, high interest rates could kick in the moment your loan is fully disbursed. Thus defeating the purpose of mortgage packages will low starting rates.

The attractiveness of different home loans and which one to take up depends on your personal objectives. If you are speculating and will only hold onto a property for a few years, mortgages with low initial rates will be attractive. But if you are looking at a long term holding period, mortgages with longer low interest spread could appear more attractive to you.



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