Singapore has one of the highest home-ownership rates in the world, and although property prices are expensive in the land-scarce nation, the government has done their best o make housing affordable for everyone. But because of the high prices, most people need to take up a mortgage loan in order to be able to afford their property. With so much money on the table and the complex jargon in mortgage documents, what does a person looking to take up a home loan need to consider first? Here are 5 essential factors you need to think about before signing on the dotted line:
Before a bank decides to approve your home loan, you need to meet certain eligibility requirements, such as age, annual income and credit score. This is quite normal given that with any type of loan you take up, a background check of your financial situation is required in order to ensure that the chance of the borrower defaulting on the loan is low. Th more important requirement for a home loan here in Singapore is something called the Total Debt Servicing Ratio(TDSR). The TDSR is one of the most significant cooling measures implemented by the government since 2013 as an effort to quell rising property prices. It is meant to prevent borrowers from overleveraging.
To explain the TDSR simply – when you put in an application for a home loan, the bank needs to ensure that your monthly debt obligations compared to your monthly income do not exceed 60 percent. This total debt includes not just your mortgage loan, but also your car loans, study loans and even credit card debts.
Fixed Vs Floating Rate
One of the most important factors when choosing a home loan is the interest rate. It is not just about how low the interest rate is, but also whether it is fixed or floating, and what benchmark rate it is using.
Fixed rate loans mean the interest rates stay the same over a fixed period of the loan, while floating rates change and are usually pegged to a benchmark rate. Choosing a fixed rate loan lets the borrower better plan his finances because he'll know the exact amount he will need to pay each month. This is especially crucial for someone who is using the property as an investment and collecting rental income to service his monthly mortgage. The main concern for a fixed rate loan is that they are usually more costly than floating rate loans.
Floating rate loans may offer lower rates to start but because they are more volatile, the rates may rise quickly and can become more expensive than a fixed rate loan over a longer term.
Home loans here are usually based on a few main types of benchmark interest rates; for instance, the bank may base your home loan's interest rate on a formula such as (1% + benchmark rate). Popular benchmark rates used here includes the Singapore Interbank Offered Rate (SIBOR), a daily reference rate based on the interest rates at which banks lend unsecured funds to other banks, as well as the Swap Offer Rate (SOR). The SOR is based on the expected forward exchange rate between the USD and Singapore dollars. The SOR is considered to be more volatile compared to the SIBOR rate. Between these two rates, you may also have the choice of choosing their 3-month, 6-month or 12-month rate. More frequent than not, the longer term rates are more stable compared to shorter term ones.
In the last 1 to 2 years, some banks have started offering various innovative home loan products that may offer some advantage to consumers. For instance, DBS has a type of home loan that is pegged to the 18-month S$ Fixed Deposit rate. This provides a good alternative for those who thinks that interest rates will rise in the next 1 to 2 years, as fixed deposit rates will likely rise at a slower rate compared to the SOR or SIBOR.
Other than focusing on interest rates, borrowers need to be aware of the conditions attached to their home loan so that they will not be caught by surprise should they consider the option to refinance later. These conditions can affect the cost of refinancing and can negate the potential cost savings. One of these is the lock-in period tied to your current mortgage loan. If you choose to refinance within the lock-in period, get ready to pay a pre-payment penalty. If you think that the current interest rate environment can change greatly in the next 2 years, it might make more sense to take up a loan without a lock-in period so that you have the flexibility to refinance as soon as you want.
Banks may dangle some lovely carrots in order to entice borrowers – free fire insurance, valuation reports as well as subsidies for legal fees. While all's good when you take up the loan, most banks have the right to claw-back these 'goodies' if you refinance within the lock-in period. Be careful to read through these conditions before you are sure to take up the chosen loan.
Are you kids and spouse living with you? If they are and the servicing of the mortgage relies more than 50% on you, you should consider taking up a home insurance. In Singapore, a mortgage insurance is called a Mortgage Reducing Term Assurance(MRTA) and is not mandatory if you are buying a private property.
An MRTA provides coverage for the outstanding home loan amount in the unfortunate situation where the borrower dies or become total and permanently disabled, thus unable to work and service the mortgage. The borrower and his family can potentially lose their home if they become unable to service the home loan. So to provide a peace of mind, especially if the borrower is shouldering the main loan burden, it could be a smart move to take up a mortgage insurance.
Article Written By Lynette Tan