It May Not Always Make Sense To Refinance
The MortgageWise Team has been diligently advising clients with home loans of all sizes since 2014. Starting from 2018 however, we have decided to set a minimum loan size of S$300,000 before we will take on any advisory and we have good reason for that.
Our consistent findings since 2014 when we started operations is this – when the loan size goes below S$300,000, the transaction costs involved in refinancing a home loan often outweighs the interest savings one hopes to achieve through such a move in the first place.
It is always hard to explain this to clients and we thought we would use a simple but realistic case study below to exemplify what we mean.
Mr Tan has a HDB bank loan with Bank A which has been paid down steadily through the years. Here are the details:
Outstanding Loan Balance: $250,000
Current Interest: 1.68% (fixed rate home loan)
His current lock-in ends in three months after which his interest will go higher to 2.00% on floating rate. He was on a 2-year fixed rate of 1.68% which he refinanced from another bank two years ago after taking a legal subsidy of $1,200 from Bank A.
As interest seems to be on its way up, like everyone else, Mr. Tan prefers another fixed rate package at 1.75% (lowest 2-year rate for HDB as at Jan-2018). His options would be:
Refinance to Bank B who offered:
– 1.75% fixed for 2 years, year 3 onwards it reverts to floating FDR rate currently at 1.95%
– Cash rebate (or legal subsidy) of 0.4% of his loan amount ie. $1,000
Reprice with his current Bank A who offered:
– 1.85% fixed for 2 years, year 3 onwards it reverts to floating FDR rate currently at 1.95%
– Admin fee of $800
Before we go further let us explain what are the usual costs involved when one changes his mortgagee bank via refinancing:
For Private Properties:
Legal fees – $2,000 to $2,200 (payable in cash or CPF)
Valuation fees – $400 to $600 or ave $500 (cash only)
Legal fees – $1,600 to $1,800 (payable in cash or CPF)
Valuation fees – $150 to $250 or ave $200 (cash only)
In Mr. Tan’s case of a HDB loan, both options throw up the same costs of around $800 whether he chooses to refinance to another Bank B ($1,800 less cash rebate $1,000) or stay with his current Bank A (admin fee $800). The deciding factor would then be – how much interest does he save by moving?
This is the hard question to answer. However, given the small size of the remaining loan, even with a slightly higher interest levied by his existing Bank A at 0.10% higher, over two years it translates into only a savings of $250,000 x 0.10% x 2 years or $500 on a straight-line basis if he moves over to Bank B.
Does it make sense to switch with a potential savings of $500? Add to that all the time costs and efforts costs of researching, paper work for submission and making a trip down to the law firm to sign the mortgage transfer documents? Maybe. The worst part is this – unless Mr Tan goes for the higher 3-year fixed rate (currently at 1.95%) , there is a legal fee or cash rebate clawback period of 3 years which is how long he needs to stay with Bank B before he can refinance out again. Otherwise the bank will claw back this cash rebate of $1,000.
Already to his nasty surprise, he will be asked to pay back the $1,200 legal subsidy he took from Bank A if he opts to refinance out now as he has yet to fulfil his 3-year period.
Above is just one of the numerous real-life examples we have encountered over the last 4 years. The numbers may vary here and there, the considerations may differ somewhat from one case to another, but the conclusions and principle stay largely the same.
It is with this in mind that we decided we will set a minimum loan of S$300,000, and we seek your understanding on this as we would not be able to explain this complex reasoning to everyone. Now the bank would still pay us distributor fee for referring them a new client, but it just may not be in your best interests in the long term.
And we are here for clients’ long term interests, not just to close a sale every time.