In the 39th article in the Scrapbook Series, Charlene Clayton takes a look at home loans, how interest is calculated on a home loan and the options you have when shopping for a loan.
WHAT IS A HOME LOAN?
Most people do not have the cash resources to pay for a home so they have to borrow money.
You can take a loan out over 20, 25 or 30 years. But this does not mean you cannot pay off your loan more quickly if you can. In fact, you should make every effort to pay it off more quickly because you will save thousands of rands in interest by doing so.
In general you can only borrow 80 percent of the price of the home you want to buy. The other 20 percent you must pay yourself as a deposit. But banks will sometimes lend you more than 80 percent although you may pay a higher interest rate on the extra money.
WHAT IS INTEREST?
The price that you pay for borrowing money from a bank is called interest and the amount that you are required to pay every month depends on the interest rate that your bank offers you.
This in turn depends on what the bank itself has to pay to borrow money.
The standard interest rate, or what is known as the base home loan rate, is what the average person pays for a loan over a year.
Depending on how much the bank values your business, you may qualify for up to 1,25 percentage points lower than the base rate.
You can see what the base home loan rate is in your local newspaper. The base rate at the various banks is very similar. And when one bank adjusts interest rates, the others tend to follow suit.
DIFFERENT TYPES OF HOME LOANS
The most common loan is a variable interest home loan. With this type of loan the bank can raise or lower the interest rate you pay depending on the bank's own costs, including what the bank itself must pay to borrow money.
Banks must give you notice of a change in interest rates.
Other types of home loans include:
* Fixed interest rate loan
This locks you into paying a specified rate for a period of time, usually one to two years.
Whether or not you should go for a fixed interest rate will depend on your view of interest rates in the future.
* Capped interest rate loan
This is a loan where you pay the variable interest rate if interest rates fall, but a "cap" is set on the rate you pay so that you never pay more than a capped rate, even if interest rates rise above this.
This option provides peace of mind against you being saddled with an interest rate which you cannot afford.
Sometimes the capped rate comes with a "collar" which means your interest rate can fluctuate between a particular range, say 18 and 21 percent.
This means that if home loan rates drop below 18 percent you will not benefit from the fall in rates, but at the same time you know that you will not have to pay anything more than 21 percent, even if interest rates rise above this level.
* Guaranteed decreases
Several banks are offering loans where your interest rate is guaranteed to go down in steps over a period of one to five years.
When considering any of these options you must look carefully at the time frame which you will be locking into and how your interest rate will compare with the variable rate.
The advantage of these options is that you know exactly what you will be paying on your home loan over a certain period, whereas with variable rates you are at the mercy of fluctuations in interest rates over which you have no control.
HOW IS INTEREST CALCULATED ON A HOME LOAN
Interest on a home loan is calculated on the amount owing every day.
This interest is added up and the total is added to your home loan account at the end of every month.
Say you took out a R100 000 loan at 21 percent over 20 years. The interest you owe accumulates every day at R57,53 a day and at the end of the month the total, R1 725, is added to your debt. Your monthly instalment will be R1 777, which covers this interest payment plus a small repayment of the R100 000 capital you borrowed.
For the first years, most of your monthly instalments will be spent on paying interest on your loan and not on repaying the loan itself.
For instance, on your R100 000 loan, after the first year you would have paid nearly R18 000, but only R300 of this would have been used to pay off the capital sum borrowed.
After 20 years, you will have repaid not only your R100 000 loan, but also a staggering R326 000 in interest!
This is why it is to your advantage to pay in extra money on your home loan whenever you can. The quicker you can pay off the interest and start repaying the capital, the better. Even small extra amounts can make a big difference to the amount of interest you owe the bank.
HOW MUCH DOES A HOME LOAN COST?
The main cost of the home loan is the interest you pay. But apart from interest there are some upfront costs which are charged for taking out and registering a home loan in your name.
The following costs are paid to the attorneys who attend to the registration of your loan:
* Bond registration fees: This fee is charged by attorneys who register your bond and is based on a sliding scale depending on the size of the bond. On a R100 000 bond, it would be about R1 700, including VAT;
* Deeds Office Registration fee: This is R100 for bonds up to R150 000, R130 for bonds over R150 000 and R165 for bonds over R300 000;
* Stamp duty: Stamp duty is a government tax and is charged at 20c per R100 or part thereof, which amounts to R100 on a R50 000 and R200 on a bond of R100 000.
And the bank which grants you the loan may charge costs;
* Valuation fee: This is the fee the bank charges to evaluate your property to see if the value of your property is sufficient to cover the loan. The fee is laid down in the Usury Act and depends on whether you take out a building loan or a loan to buy an existing property.
The fee for loans for existing properties up to R500 000 is 0,5 percent of the value of the property with a minimum of R250 and a maximum of R1 250;
* Bond initiation fee: A once-off fee of about R175 is charged by the bank to help cover the administration costs of setting up your loan;
* Administration fee: Banks often charge an administration fee of R5,70 (including VAT) every month;
* Security variation fee: Generally your home itself is the security the bank needs to give you a loan. But if you have other security, the bank may charge you R100 if you make a change to this; and
* Loan guarantee fee: You may be asked to pay a loan guarantee fee of 10 percent of the portion of the loan which is guaranteed if you need to furnish the bank with a guarantee.
Remember these are not the only costs you pay when you buy a house. You have to pay transfer duty, which is a tax you pay to the government, as well as legal fees and other costs.