Generally for most adults debtors, a mortgage will be the single biggest financial commitment they will ever undertake. It is therefore, no wonder that home owners and buyers spend so much time and effort understanding them. For big ticket loans on long term tenors, even a small variation in interest costs can mean a huge amount in dollar terms. Here are the key things you need to know about them.
Loan quantum
This is the amount that will be borrowed. In financial lingo, this quantum is also often expressed as loan-to-value. So if a lender approves a 90% loan-to-value, it means the loan quantum will be 90% of the value or price of the property, whichever is lower. Although there are many experts and seminar speakers advocating the ways to obtain 100% financing for real estate, be mindful of the risks that you will be taking.
Frankly speaking, if you cannot afford to pay 10% of the property price, maybe you are conducting your business out of your own league. You might argue that you are an investor who is building up a real estate empire with borrowed funds. Fair enough. Just be careful with what you are doing and don’t make your family members suffer because of your bad decisions.
Tenor
In many places, the word “tenor” and “term” is used interchangeably. They mean the same thing, which is the length of period that a mortgage will run. Longer tenors will mean a lower instalment amount, but more expenses on interest charges. Shorter tenors will mean a higher monthly payment, but less expenses on interest.
In places where there is tight credit policies, a longer tenor will allow a borrower to take up a larger loan. This is because the lower monthly amounts results in a more favorable number when conducting debt servicing stress tests. This also means that for older borrowers, the quantum they can qualify for can be restricted if they have low income and the lender has a policy of a age ceiling capped on mortgages.
Interest rates
There is a huge variety of types of rate structures. Some have long term fixed rates, while others have adjustable or floating rates. Some are hybrid loans where you enjoy a period of fixed rates and later convert to one with adjustable rates. There are also mortgages that are pegged to public indexes like the LIBOR that dictates how much you pay depending on the market. Then there are also interest-only loans that only requires you to repay the interest without principle for the initial few years. Banks are also known to offer variable rates where what you pay is determined by an internal board rate. It’s quite a marketplace. Before deciding on one, you should go out and find out what types of interest structures you are most comfortable with and what suits you best. You never know. Because it is such a competitive market, lenders often conceptualize new packages that appeal to targeted market segments. You might just be one of those segments a particular bank is targeting.
Redemption and prepayments
Even though you might have signed up for a loan for 25 years, you retain the freedom to refinance the loan to another lender. But of course, you will be subject to prepayment penalties depending on the terms of the facility contract. Usually prepayment and redemption penalties are active during the initial few years of a mortgage. After which the penalty will be no more. This period will be stated clearly in the contract.
The reason you want to review this consistently is because there are always promotions available in the market which can make it a no-brainer to switch lenders. And we also cannot write off the possibility that you will win the Powerball and decide to redeem your home loan. Take note that even when there are no penalty fees, you could still incur legal fees for remortgaging.
Freebies
Because of the long term profits that a lender can register from long term lendings, they usually pull out all the stops to acquire new customers and new properties to finance. Even if the cost to acquire a new customer runs up to $1,000, that is small change when the customer will be paying for a mortgage at 5% interest for the next 20 years.
Because of this competitive nature of this industry which essentially all players sell the same product, you can often find very attractive benefits like free fire insurance, legal subsidies, free appraisals, grocery vouchers, etc. These are the weapons beings used in the housing loan war between lenders. The good thing is that you want them to use more of these weapons on you.