DBS’s latest package for 3-year fixed rate is a stand out choice for “Home Loan Of The Month” for it captures both the benefit of both a fixed rate and a floating rate mortgage. What do I mean by that?
When a homeowner goes into a fixed rate mortgage, what he wants in return for paying a slightly higher premium is the peace of mind that comes from knowing that his monthly repayments are fixed for a certain period of time, in this case 3 years – a reasonably long time, no matter how much the prevailing interest rises. However there are also 3 obvious disadvantages of locking into a fixed rate mortgage:
- When the fixed term ends, one needs to incur refinancing costs again as it almost always revert to a much higher spread or rate.
- Fixed rate comes with a lock-in period which restricts one from selling the property and redeeming the loan in full thereby incurring a penalty fee usually 1.5% of the loan repaid
- Should interest rate not move up but down in event of an unexpected global recession, one would have paid unnecessarily higher interest costs
We will discuss shortly how the new DBS home loan fixed rate package actually help circumvent some of these concerns. Before we do that, let’s look at the considerations for a floating rate mortgage.
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When a homeowner signs onto a floating rate mortgage, he is primarily looking for flexibility in making repayments any time without incurring penalty, even the possibility of redeeming the loan in full should a “too good to be true” offer for his property comes around. Hence at MortgageWise we usually recommend floating rate mortgage for investors. There are however other factors to consider of course, for example the outstanding loan size. If the loan is too small, the costs of refinancing a fixed rate mortgage when the fixed term ends might outweigh any potential interest savings, and hence a floating rate mortgage might make more sense.
To put it all altogether, the benefits of a floating rate mortgage lies in its flexibility in making repayments, partial or full, and the doing away with need for regular refinancing thereby incurring transaction costs every few years, especially when one opts for floating rate packages with “constant spread” throughout the entire loan tenure. There are a couple of such packages in the market at this moment.
Now let’s look at how the new DBS 3-year fixed rate encapsulates or mitigates against some of the pros and cons discussed so far for both fixed and floating mortgages.
First it offers the peace of mind that comes with a typical fixed rate. At 1.80% this is just a negligible 15 basis points from the lowest DMR (Deposit Mortgage Rate) floating package in the market at 1.65%. Of course this premium for fixed is a lot more if you compare it with SIBOR-based floating rate packages currently at 1.40%. But that is a whole different topic of discussion as SIBOR loans are more volatile which can drop by 25 basis points in a single month and bounce back 25 basis points just as well in the same time.
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Second, during the lock-in period of 3 years, should one end up selling the property and redeeming the loan in full, DBS actually waives the commitment fee (or penalty) of 1.25% of the loan but charges a 0.25% admin fee instead (this is on the original loan amount at the outset). So for a $1m loan with an outstanding balance of around $935,000 after 2 years for example, instead of paying the usual 1.5% penalty (on outstanding loan) which works out to be $14,025, one just needs to pay $2,500 (0.25% admin fee on $1m) – a whopping difference. This makes the exit almost a non-issue as I am sure anyone who is keen to sell a property within the 3-year lock-in period of the loan can easily defray this 0.25% costs into the sale price.
Now for the best part, unlike most fixed rate mortgage that reverts to a much higher spread after the fixed term ends, the rate from year 4 onwards for this package is FHR18 + 1.25 throughout till the last year! The spread of +1.25 is a depart from the normal range of +1.70 to +1.80 for most DMR loans (do not confuse this with SIBOR loans where the basis for the spreads usually at +0.80 for first 3 years and +1.25 thereafters are totally different from those of DMR loans). This means that there may not be a need for homeowners to refinance home loan even after the fixed term of 3 years ends – the exact advantage of a floating rate mortgage with constant spread, thus saving homeowner on transaction costs.
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