In today’s age, we are acutely aware of the damaging potential of misinformation. We see it in politics, governance, and health (take your vaccines, people!). But this applies to home loans and refinancing as well.
That’s why in this guide, we will be breaking down six popular myths concerning home loans and refinancing. At first glance, some can appear harmless. But falling for them could cost you your hard-earned money – without you even realising it.
Let’s jump right in.
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Myth #1: HDB Home Loan Interest Rates Will Always Stay at 2.6%
The HDB home loan interest rate has been stuck at 2.6% for so long now that it is easy for many to mistakenly believe that it will always be that way. In actuality, the interest rate for a loan directly from HDB is pegged at 0.10% above the legislated minimum interest rate on your CPF Ordinary Account (OA). That currently stands at 2.5% per annum, which is why the HDB loan rate is at 2.6%.
And to be fair, historical data does seem to point that the rate will stay this way for quite some time. According to CPF’s historical interest rate table, the interest rate on the CPF OA has been at 2.5% since July 1999! That’s right, back when many first-time property buyers had yet to even reach secondary school age.
But just because it has been that way for over 20 years doesn’t mean it will stay that way forever. As the events of 2020 have shown, things can and do dramatically change in an instant. You can say that the HDB loan rate will most likely stay at 2.6% – but you can never know for sure.
Myth #2: Interest Rates Will Remain Low Forever
Compared to the above, this is a far more “recent” myth. Browse through the financial news – or even look at the falling fixed deposit rates being offered by your bank – and you can easily come away feeling like we live in a world where interest rates are going to stay low for the long term.
Of course, this is not to say that there aren’t any positives to this. For instance, now could be a golden window of opportunity for you to refinance your property loan. You could literally put hundreds of dollars back into your bank account each month.
However, the danger with thinking that this low interest rate environment will last indefinitely is that you might end up biting off more than you can chew. Remember, there is no such thing as a “permanent” fixed-rate home loan in Singapore – meaning your home loan rates will always be subject to change. And just like how refinancing in the present environment could save you hundreds of dollars each month, a rise in interest rates could increase your costs by a similar amount.
That said, the Total Debt Servicing Ratio (TDSR) computation does take into account an interest rate of 3.5%, which gives you buffer. This means that even if rates rise slightly (and assuming all else does not change), you should still be able to afford financing your home. It may be more of a stretch than you’re used to, though.
Myth #3: Using As Much CPF Monies as Possible (to Save Cash) is Always the Best Option
Singapore has been ranked as the third-most expensive housing market in the world, behind Hong Kong and Munich. Add a maximum LTV ratio of 75% for your first (non-HDB) loan, and you’re staring at a big downpayment requirement to afford just about any home.
So it’s no surprise that the government permits Singaporeans to use their CPF OA funds to pay part of the downpayment amount – an option that many Singaporeans are all too happy to use. However, just because this is the common practice, it doesn’t mean it’s the best one.
As we explained in our in-depth article on using CPF for property, you will incur hidden opportunity costs for doing so. In a nutshell, because you can get a guaranteed 2.5% return on your CPF OA monies – which currently exceeds most bank home loan rates – you end up “losing” the difference in unearned returns.
Of course, we understand that, in some cases where you simply don’t have enough cash savings, this isn’t a choice. But what we are saying is that you should definitely think twice before wiping out your CPF OA funds.
Myth #4: As Long As The Property Appreciates, You'll Make a Profit
Given the priciness of the Singaporean property market and its long-term appreciation trend, it’s no surprise that the flawed “just buy property, sure make money” mentality has become ingrained in many people’s minds. After all, the Private Residential Property Price Index has increased by 17 times since 1975 – that's a 1,600% return!
However, the reason this seems impressive is that most people’s minds aren’t built to think exponentially. In fact, over a 45-year timeframe, a 1,600% return equates to a 6.36% gain each year. (Here’s some additional food for thought – in comparison, for the 10-year period between 2009 and 2019, the Straits Times Index returned an annualised 9.2%.)
Seems less impressive now, doesn’t it?
And that’s before accounting for: mortgage interest costs, CPF accrued interest repayments, monthly maintenance fees, property taxes, renovation costs, stamp duties, and conveyancing fees.
Of course, it is very possible to make a good return from your property. However, there are many factors beyond just simple capital appreciation to account for.
Myth #5: The Lowest Mortgage Rates Are Always The Best
Whether it’s an original home loan or refinancing, there is a prevalent belief that the cheapest home loan package is always the best. And on some level, that makes sense. For a 30-year $500,000 mortgage, even a 0.1% difference in interest rates could add up to almost $10,000.
So yes, the rate is an important factor – perhaps even the most important one. But it is not the only one to consider. For example, you need to also look at:
Long-term interest rates
When comparing home loans, keep in mind that in most home loans, whether fixed or floating, the rates will likely increase after the third to fifth year. And it’s that rate that you will have to pay for the long term (unless you refinance before then).
For example, if you agree on a five-year fixed rate of 1.5%, the rate will be guaranteed for five years only. Thereafter, it will be pegged to another rate, usually a (much less competitive) board rate.
Lengthy lock-in periods can make it more difficult for you to enjoy savings from refinancing down the line.
If interest rates rise, it might make sense to start prepaying on your loan if you have the cash available. But prepayment penalties might make this option financially unviable.
If you’re refinancing your loan, this will be the main fixed cost you must bear. Conveyancing fees tend to be similar across banks and legal firms, but depending on any subsidies and/or incentives, the cost may differ.
If you’re looking at possibly repricing (i.e. refinancing with the same bank) later on, some banks give you the option of doing it for free. Again, this savings might more than offset a slightly lower interest rate elsewhere.
Myth #6: You Should Never Refinance If You are Still Within a Lock-In Period
According to our Consumer Sentiment Study H1 2021, 45% of Singaporeans feel that refinancing their mortgage during their lock-in period is an unwise decision. This makes sense – if you do so, you would likely have to pay a penalty (typically 1.5% of the outstanding loan amount). Meaning, if you had $400,000 left on your mortgage, you would have to pay a penalty of $6,000.
This is steep. But it doesn’t always mean that it’s a bad idea. To determine that, a full cost-benefit analysis is needed.
As Paul Wee, Managing Director (Fintech) of PropertyGuru group notes,
“Contrary to conventional wisdom, there may be circumstances where refinancing during lock-in periods or incurring break costs may still make sense. We have helped homeowners attain a revised loan structure with lower monthly payments and higher savings in the long run, despite having to incur a legal fee subsidy claw back. This is achieved by tailoring a cost-benefit analysis to determine if a homeowner’s long-term savings outweigh the costs incurred to their current loan.”
Here's a quick “back of the envelope” calculation. For a $400,000 mortgage with 25 years remaining, refinancing from a 2% interest rate to 1.8% would save over $11,500 in interest costs. Even accounting for the $6,000 lock-in penalty and conveyancing fees (another $2,000 to $3,000), it might still be worth it.
Be Careful of the Word “Always” (Or Its Cousin “Never”)
Here’s the lesson to take away from this article – beware the word “never” or “always” when it comes to personal finance. Personal finance is individual, and absolutes rarely apply. There are always caveats and special situations.
That’s also why so many people love speaking to our Home Finance Advisors to get personalized advice on their home financing options. Simply fill out a short form, and one of them will get in touch with you shortly.
In the meantime, check out the rest of our home financing guides here!
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This article was written by Ian Lee, an ex-banker turned financial writer who hopes to use his financial background and writing skills to help raise people's financial literacy levels - a necessity in our modern world.