AVOID THE STING ON SUNSET
Settling in to the one house and 25-year mortgage is an idea that's rapidly becoming 'quaint', even old-fashioned. These days, the average age for a mortgage is less than five years. The reasons for this are varied. With increased competition in the lending arena, many home owners simply refinance to a cheaper mortgage that suits them better. Others sell to upgrade their property. A career promotion can mean a move interstate, resulting in a mortgage being repaid much earlier than the contracted term.
However, the unwary borrower can pay a hefty price for the privilege. The true cost of a loan paid out over a short term can be radically higher when exit penalties are added to the total cost. A loan's exit penalties typically consist of two components: early repayment penalties and deferred establishment fees.
Most of us don't pay much attention to exit fees when choosing a home loan. Our focus is usually on interest rates, upfront and ongoing costs. Therefore unexpected exit costs can substantially boost the true costs of home loans.
To illustrate the point, let's compare a home loan for $250,000 taken over 25 years using the Arab Bank's Basic Home Loan with AIMS Home Loans' Super Rate Variable. After year one, there are no exit penalties with the Arab Bank loan, whereas AIMS will cost $6,715 to exit after year one and $5,036 if you repay in full after year three. So why would you consider AIMS? Its interest rate is a low 6.44%, compared to the Arab Bank's 7.34%.
After three years, the net cost of borrowing with the Arab Bank would be $66,713. With AIMS, it would be $68,907. However, after five years, a low interest loan such as AIMS really starts to make headway for you as the net cost of $102,479 is less than the $110,622 paid to the Arab Bank.
The bottom line for borrowers? Choose a home loan that suits your expected usage, rather than just going for the cheapest interest rate. By all means, go for the lowest rate if you intend to stay but if you plan to move sooner rather than later, opt for a home loan with low or no exit penalties.
This article by RateCity Executive Chairman, Andrew Willink, appeared in Money magazine's 'In Your Interest' section - May 2007. It is reproduced with permission.
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