After deciding what kind of interest rate package suits you best especially between fixed or floating rate, we look at step 2 of the 5-step review process in selecting a home loan, ie. loan restrictions.
To recap the 5 steps are:
- Interest Rate
- Loan Restrictions (eg. lock-in period, prepayment penalty etc.)
- Special Features (eg. interest offset account, switching between sibor periods etc)?
- Personal Considerations
- Tenure and Loan-to-Value (LTV)
Besides interest rate, loan restrictions such as lock-in period could be the next most important factor to assess in deciding on a housing loan. What is lock-period and what are some of the other common or hidden factors to watch out for?
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(a) Lock-in Period
As the name implies, the lock-in period is the period where the borrower is “locked in” with the bank as he enjoys a special promotional interest rate usually in the initial few years of the loan as covered in step 1. This period can be anywhere between 1 to as long as 5 years depending on whether it is a fixed or floating rate package. The borrower trades off his right to switch to another bank during this period in return for the better rate offered. In the case of sibor-based loans the spread that the bank charges is typically lower by at least 30 basis points during the lock-in period from 1.25% down to 0.95% or lower. Should the borrower be forced to redeem his loan in full during the lock-in period for example in the case of sale of property, the bank usually levies a penalty of 1.5% on the loan amount redeemed which can easily run up to $10,000 or more for an outstanding loan of $700,000, which wipes out all the savings from the promotional interest.
How do you decide if you should go for lock-in? As a general rule, if you opt for fixed rate package in Step 1, it normally comes with a lock-in period matching that of the period where the interest rate stays fixed. Such lock-in is fine and fair given the stability of a fixed monthly repayment that comes with fixed rate for the period. If interest rate rises too quickly by the time the fixed rate period is over, you can easily refinance your loan again as the lock-in period would also have expired.
The merit of locking in for a floating rate package is not as clear. This is especially so in the current environment where most expect rates to creep up in the next few years. If the rate hike turns out to be too soon and too fast, the “promotional rate” you enjoy on your loan could turn out to be less beneficial and you will not be able to switch to a fixed rate loan should you be locked in for too long a period. Ceteris paribus it will be safer to go for a floating rate package without a lock-in even if the promotional rates are a few shades higher than the best available rate.
More importantly when it comes to lock-in period, you must be certain that you are not going to sell your property anytime soon, at least not within the next few years because of the penalty as explained earlier. Hence most people will be more comfortable committing to a lock-in period for a loan where it is for the “roof over their head”, as opposed to an investment property which is more susceptible to business cycles.
In the past one or two banks do provide for waiver of this penalty in event of a sale of property but you need to be careful to sight this clause in the loan contract as promised, as it varies from time to time and is by and large not a permanent loan feature in Singapore.
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(b) Partial Prepayment Penalty
No one likes to be heavily indebted and hence whenever you get a windfall say some extra bonus at the end of the year you will want the flexibility to pay down on your loan outstanding and hence reduce your total interest costs over time. You can appreciate why then this is also an important feature to establish for your loan.
As a general rule, loans that come with a lock-in period attract a penalty whenever you try to redeem in full or even pay down in partial. As explained this prepayment penalty is usually 1.5% on the loan amount redeemed which of course then wipes out some of the interest savings you wanted to achieve from paying down portion of the loan.
Some banks do allow for paying down of up to 20% of the loan without a penalty even with a lock-in period promotional rate. For those refinancing, note that some banks might also require that you to keep a certain minimum loan amount after partial repayment for example $200,000. Check with an experienced mortgage broker who will be able to list out for you all the loan restrictions in a chart format for easy comparison.
(c) Re-pricing Admin Fee
Another factor which is of lesser significance to consider is the re-pricing admin fee.
First what is re-pricing? It simply means going back to your current bank (for those with existing mortgage for refinancing) and ask to switch over to another loan package after the expiry of your lock-in period if any. The bank usually has a specialized department that handles all re-pricing requests. They will gladly offer you any of their existing packages for new customers but subject to an admin fee which from our knowledge can vary greatly between $200 to $800. Most of the local banks will charge $500-800 for re-pricing. Incidentally some foreign banks like CIMB charge only $200 for re-pricing (subject to change from time to time).
How important is this a factor in your consideration depends on how likely you think you are going to stay with the same bank for personal reasons. But remember re-pricing happens only a few years down the road and the admin fee might also be revised upwards by then (used to be $500 for local banks in the past). For most people this may not be a salient factor as refinancing to another bank altogether not only ensures you get the best rate but many banks still provide legal subsidy which covers all the costs involved and makes it cheaper than re-pricing with the same bank ironically.
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(d) Breakage Fee
The last three fees are not so much factors of consideration when choosing a loan, but more to know… starting with breakage fee.
Nowadays most people are on market-pegged loans of 3-month sibor or sor. What this means is that the your interest charged is set or determined every 3 month and will not change in the ensuing 3-month “interest period” even though the sibor rates in the money market actually fluctuates daily. The implication here to you is that if you should want to do a partial or full repayment of your loan, you need to effect that exactly on the expiry date of this “interest period” which happens every 3 months. If you fail to do so for example some borrowers forget to negotiate that during the sale of the property and ends up redeeming his loan in full on completion date which falls outside the expiry date, you may be charged what is termed as a breakage fee of 0.5% (depends on the bank) on loan amount redeemed.
(e) Cancellation Fee
Cancellation fee is levied where one cancels the loan even before it is disbursed. This is usually around 1.5% on the amount cancelled. It is usually not a factor of consideration as hardly anyone cancels after signing the loan offer document. Also even if you do change your mind after signing on the dotted line, you can always wait for your loan to be disbursed and then arrange for refinancing provided there is no lock-in period.
However cancellation does come into play for loan on property under construction where there is progressive disbursement of the loan. In some cases where buyers decide to switch over to another bank’s package just before TOP due to some aggressive pricing or incentives they must be more than prepared to pay 1.5% cancellation fee on the 40% loan yet to be disbursed.
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(f) Legal Fee Subsidy Clawback
Lastly there is the legal fee subsidy clawback for refinancing cases where the borrower will need to refund the initial legal fee subsidy (usually capped at $2000) paid for by the bank at the outset if he choose to move his loan again within 3 years of refinancing it. That is the reason why we always look at the average interest rate in the first 3 years of the loan as beyond that there is usually no more lock-in nor legal fee clawback.
Consider using the free service of an experienced, knowledgeable & professional mortgage broker, like us here at MortgageWise, who not only help to plan with you on your new purchase, but become your mortgage partner in refinancing solutions over the entire term of your loan, giving you timely reminders and advice on the best home loan from time to time.
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.