Not everything that goes up is a good thing. Interest rates have suddenly jumped this year, which can be a rude shock for homeowners accustomed to sub-2 per cent rates the past 20 years.
Bank loans have long been cheaper than HDB housing loans, which are set at a rate of 0.1 per cent over the current CPF Ordinary Account interest rate. But the situation has changed quickly.
The new landscape
The higher home loan rates have inflation to blame. Singapore’s core inflation rate in June rose to a 13-year high of 4.4 per cent from a year ago. Like the U.S., Singapore has been pushing for interest rates to rise to combat higher prices.
Home loan rates offered by the three major banks in Singapore are now around 3 per cent, up from around 1 per cent late last year.
How does it affect me?
For most of us, our biggest buy in our lifetime will be a house. So every cost needs to be considered carefully: deposits, upfront cash payments, stamp duties, and legal expenses, as well as the monthly mortgage payment.
Higher interest rates means you’ll have to pay more for your mortgage. Here is what you can do to make sure you select the best mortgage plan and protect your overall finances.
What can I do?
Here are three things to keep in mind in light of rising interest rates:
1. Choose the right loan
Should you take a bank loan or a HDB loan? Currently, some of the fixed rates offered by banks are higher than the HDB loan interest rate.
However, some of the floating rate bank loans are below the 2.6 per cent rate offered by the HDB.
Doing a quick calculation will show you whether you can save more by choosing a floating rate bank loan or a HDB housing loan, although you have to remember that interest rates could go up even more in the future.
2. Choose the right interest rate package
Banks offer three types of interest rate packages: fixed, floating, or hybrid interest rates.
Fixed interest rate loans offer a period of certainty, since your rates will not change for the first few years. This shields you from volatility and allows you to better plan your cash flow, but it is also why fixed interest rates are always higher than floating rates.
Floating rates are subject to the three-month SORA, which is the volume-weighted average rate of borrowing transactions in the overnight interbank SGD cash market in Singapore. These rates would usually be lower than fixed rates but are subject to market volatility.
Lastly, there are hybrid loan packages, where half the loan rate is variable, and the other half is fixed. It may sound like the best of both worlds, but calculating the amount you pay and underwriting it can be extremely complex.
3. Have some buffer
Set aside money for any unforeseen circumstances so that you can still make your monthly mortgage payments if interest rates go up further.
This will allow you to properly mull over any refinancing plans, or think about repaying a lump sum of your mortgage to reduce your overall monthly interest repayment.
How much is enough? As a general guideline, six to 12 months worth of monthly repayment money is a good cushion. But considering the current economic climate, you may want to have as much as 18 months’ worth of funds to repay your mortgage.
Assets are important, but so is cash
Have a stable cash reserve in relation to your loan obligations. Any extra money you get — for example, salary bonuses — can go towards either investments or paying off your mortgage.
More importantly, do not lose sight of your milestones, such as retirement and your childrens’ education. Your investment time horizon and risk tolerance will help you to decide your next steps.
In this environment, certain investment asset classes such as real estate investment trusts (REITs), property, and bonds are attractive and it might make sense to allocate more funds for your investments, especially if you anticipate earning more returns from your assets than the interest rate on your loan.
Lastly, you can consider shortening the term of your loan if your pay increases. Although your monthly mortgage payment would go up as a result, your overall interest costs will shrink.
Now is a good time to reassess your home loan and personal finances, which will have bearing on your future. With better knowledge about the ins and outs of housing loans, you will be able to make more prudent decisions based on what’s best for your personal circumstances.