What is an Equity Term Loan (ETL)? In short, it is a term loan that is taken out against the equity (that portion which has been fully paid) in a property, or some calls it a 2ndmortgage on the house (note ETL is only available for private properties and not HDB). It has to come from the same lender as the 1stmortgage which is the housing loan. However in terms of the order of charge (claim in event of foreclosure sales), it is not 2nd charge, but a 5th charge loan as the order goes like (see CPF website):
And because the claim comes only after one’s CPF money and accrued interested is repaid, lenders will need to take out this portion before it determines how much equity is left to be “cashed out”.
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To give a simple example, Mr. Lim buys a property for $800,000 ten years ago and opted for 80% housing loan at $640,000. Today the property has appreciate to $1.1m and he has paid down diligently reducing the outstanding loan to $450,000 in the meantime. He uses CPF to service the loan partially every month and todate has utilized around $300,000 in all from his CPF towards this property, including the initial 15% at the purchase and interest accrued. If this is the only mortgage that Mr. Lim has in his name, the maximum ETL that he is eligible to cash out now (subject to income) would be 80% of current valuation ($1.1m) less outstanding loan ($450,000) and CPF utilized including accrued interest ($300,000), ie. $130,000. Obviously the term loan quantum is largely determined by how much the valuation has gone up by and how much of CPF is utilized towards repayment. Those who have bought properties in Singapore more than 10 years ago and have used mostly cash (leaving CPF funds to earn 2.5% interest) to service the mortgage will be able to “gear up” on a bigger amount
After paying down on mortgages over the years, will it not be silly to gear up and get indebted and start all over again? Surely the banks will love that as they get to earn a “second round” on the same property. Well, that depends on a few factors like age, financial profile, risk appetite, ability to generate returns, etc. In Asian context where the culture is towards frugality and savings, most people will like to be debt-free by a certain age. However the smart use of leverage can bring savings and profits for some. There is no cheaper way to get leverage on a secured facility like mortgage at less than 2% per annum interest than borrowing on credit cards or unsecured facilities at 2% per month, or on hire purchase loan to buy a car (effective interest is much higher), or on a renovation loan or unsecured term loan at 6% interest, or on margin trading account for stocks at 6% interest, etc. You get the idea. If you are taking on any of these other forms of debt like a car loan, and you actually have the capacity in your mortgage to ask for a term loan, then you may not be doing the wisest thing, at least financially.
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So let’s take a look at what are some possible uses of an ETL especially in the next few years:
- To buy a car
- To renovate a house
- To restructure all unsecured debts to one single secured facility at lowest interest
- To start a new business or for general working capital
- For that first UK investment making use of the once-in-a-lifetime opportunity brought about by Brexit
- For investments that could generate a higher return than one’s cost of funds
- Just for rainy days ahead in an uncertain job market (put in risk-free Fixed Deposits of up to $50,000 each in various banks)
My favourite amongst all the uses of an equity term loan is to use the cash to buy back the stocks of the very institution that is making money from you – the 3 local banks in Singapore. However that window has now closed as one needs to get in at the right price. And if you have followed my blog here and acted on our call back in January this year and bought into DBS at $14 a piece, you would be sitting on a tidy profit of almost 30% with DBS now back to $18! That to me is the best mortgage strategy that one could deploy – go offensive instead of just defending (refinancing for lowest rates).
Finally, if you do see the need for an ETL over the next few years, what better time than now to take it on a 1.99% fixed rate (important so that your cost of funds is locked down while you go about hitting your financial targets) over the next 5 years? Just as a general rule of thumb I use, anything below 2% p.a. cost of funds is deemed financially attractive, especially when the average lending costs in Singapore over the last 30 years hovers much higher than that (see 3-month SIBOR chart):
One last caveat I need to give whenever I touch on the topic of debt – understanding of self and how one is able to manage his emotions especially when it comes to greed and fear is of paramount important. There are many investors who are really a lot worst off financially than when they first started and they are in fact better off deploying their funds to fixed deposits instead – yes the returns may be meagre and not in keeping with inflation, but that is better than losing one’s principal capital. It is hard to say who will have the last laugh, only time will tell. Yet there are those who catapult to success taking big risks in setting up their own businesses, which return the higest amongst all asset classes, and which also generate jobs for the Singapore economy. They usually start with some form of leverage. So leverage in itself is not a bad thing. Rather the use of leverage is what matters. At MortgageWise we are talking about both the smart use of leverage, and the smart way to leverage (when it comes to mortgages). So speak to us today.
Since 2014, MortgageWise.sg has provided thought leadership in the mortgage planning space in Singapore, taking deep dives into the latest trends in the industry, providing useful mortgage tips, and making sense of rate movements. We aim to build trust with clients for longer term partnership and not just do product-pushing for a one-time deal unlike bankers. That’s why we always present “whole-of-market” perspective including packages that banks do not pay us. That’s why many have chosen to work with us in the end notwithstanding the sheer number of brokers and agents out there. See their testimonials.