The Honeymoon Is Over
Sydney Morning Herald
Wednesday June 4, 2003
At long last banks must come clean on the full costs of their home loans. Christine Long explains how the new comparison rate can help you shop for a mortgage.
Financial institutions have long figured out that whatever they sacrifice in terms of a lower home loan interest rate can easily be clawed back with ongoing fees.
It's a neat marketing ploy that has worked wonders for them for years.
From July 1, though, new consumer protection legislation will make it easier for people to slice through the hype and tell at a glance the true cost of their mortgage.
On that date it will become mandatory for mortgage lenders and finance brokers in Australia to carry the telltale comparison rate in their advertising.
The difficulty of assessing loans and their raft of fees (many buried in the fine print) has, in many ways, fanned the growth of the mortgage broker industry.
However, the comparison rate, also known as the average annualised percentage rate, is designed to give consumers a better guide to the "true" cost of a home loan. It includes the interest rate together with any establishment and ongoing fees. As the tables on this page shows, the comparison rate can differ significantly from the interest rate alone.
Lenders already have to include the comparison rate in their loan documentation, but Catherine Wolthuizen, the finance policy officer at the Australian Consumers Association, says the new requirements recognise that consumers need help deciphering the true cost of a home loan earlier in the process.
"The explosion of new products and providers in the market has greatly increased the complexity of choosing a mortgage," she says.
In particular, honeymoon deals - where a lower rate may apply for six months to two years - can "obscure" the true cost of a home loan, says Wolthuizen. In some cases potential borrowers have ended up out of pocket because they discovered the true cost of the loan only after paying a hefty application fee.
According to the financial services research firm Cannex, there are about 100 home loans in Australia with introductory rates.
James Dick, a senior financial analyst at Cannex, says one example is the United Credit Union Premium One Year Introductory Home Loan. Its honeymoon rate of 5.69 per cent sounds attractive, but because it reverts to 6.69 per cent after one year - and there is an upfront fee of $600 - the comparison rate is 6.613 per cent. That is only slightly less than the comparison rate for the credit union's standard variable home loan of 6.628 per cent, says Dick.
Easy access to comparison rates will be a handy development for borrowers like John Ross, who always keep an eye for a better home loan deal - but they also have limitations (see Chasing Better Deals at left).
Kathlene Jones, the director of research and client solutions at Cannex, says: "I think it's a very good way for people to be able to compare the real cost of a mortgage, but they should be very much aware it may not include all the costs."
Any costs, such as mortgage insurance, that are not "ascertainable" at the beginning of the contract, are left out, as are government fees and charges. Likewise, fees linked to the borrower's individual behaviour, such as redraw fees, are omitted.
"That could make a difference, particularly if you're using one of the basic home loan products," she says.
Phil Naylor, the chief executive officer at the Mortgage Industry Association of Australia, says early repayment charges are also left out of the calculation.
"Fees and charges are only included in the calculation if they are known when the comparison rate is disclosed," he says.
It's also important to remember that different loan amounts and terms will produce different comparison rates.
The comparison rate contained in home loan advertisements will be based on a standard term of 25 years and amount of $150,000. If you're taking out a $300,000 mortgage for 20 years, you may need to do more legwork.
This is where a comparison rate schedule may be useful.
A comparison rate schedule for each product must be displayed by lenders and finance brokers at their offices and given to consumers with any application form for credit. Tania Turnbull, the head of marketing at ANZ Mortgages, explains these schedules will include a range of terms and loan amounts.
In addition, she says, borrowers will be able to put their specific term and loan amount into a comparison rate calculator on the ANZ website.
Warren O'Rourke, the head of corporate affairs at Mortgage Choice, says there may also be some products where lenders are not required to produce a comparison rate, such as interest-only loans.
Whether the comparison rate is a useful tool will also depend on what you are looking for in a home loan.
Rebecca Taylor, a spokeswoman for St George, says cost is only one reason for selecting a particular loan. "Other factors can be equally or more important as the comparison rate in determining the correct loan for customers."
These may include 100 per cent offset accounts, redraw facilities and multiple sub-accounts or other products available with the mortgage such as insurance, transaction accounts and credit cards.
Certainly for Sherryn and Dinesh Chinnappa, cost was not the only reason they decided to stick with their loan when they bought a new house in Denistone (see Just Call Bella above). Ease of banking and the services of a relationship manager were also important.
For this reason it is unlikely the increased prominence of comparison rates will do away with the need for mortgage brokers, currently used to source one in two home loans in Australia.
As Wolthuizen says, a borrower who is looking for a cheap home loan and knows the features they want may be able to rely on shopping around and using the comparison rate as a guide. "Other people will still seek an intermediary because they are less knowledgeable about what they are looking for."
If you fall into that category, it's still worth following Sharon Dumigan's example and doing your own research as well (see Doing the Research on this page).
Dumigan turned to a mortgage broker after she felt she was not gathering all the relevant information by calling the banks herself. But she continued educating herself on the mortgage market.
"I didn't want to feel like I was completely in the dark," she says.
Finally, it is also important to
be aware of the broader implications the new comparison requirements could have for the mortgage market.
Mark Bouris, the chairman of Wizard Home Loans, which has been carrying comparison rates on its advertising since 1998, believes the new law will effectively "wipe out" the advertising of honeymoon rates. For that reason he urges consumers to be particularly careful about entering into honeymoon deals in the lead-up to July 1.
Bouris says he has observed a surge in honeymoon deals by lenders as they try to entice borrowers into such loans before the new requirements are introduced.
"We would seriously question the consumer benefit of this surge in honeymoon loans," he says.
Looking ahead, mortgage providers may also seek to impose, or increase, fees that are not captured by the comparison rate. Pay attention to any fees for redraw facilities and early repayment penalties before signing a loan.
JUST CALL BELLA
Growing children and a gruelling daily commute were enough to convince Sherryn and Dinesh Chinnapa that it was time to leave their two-bedroom apartment in Coogee. But when they made the move to their new five-bedroom home in Denistone, they took their Commonwealth Bank home loan with them.
"We've carried on with that bank because they've been very good and made our life easy," says Sherryn.
As the 32-year-old registered nurse explains, because they "owe the bank so much money" they qualified for its professional package when they bought their Coogee home more than three years ago.
"We get half a percentage point off the current standard variable rate, we get quite a lot of discounts on insurance, and we get a Gold Visa card."
But as the primary carer of their two small children, Sherryn says it was the service provided by the relationship manager appointed to look after their account that helped her decide to stay with the bank.
"I no longer have to go through a branch, and have them go to the head office. I just ring Bella and she does everything over the phone," she says.
"The rate that you get [through a professional package] might be slightly cheaper, but if you've got somebody who looks after you, that's worth a million dollars."
CHASING BETTER DEALS
When it comes to mortgages, John Ross admits to being fickle and chasing the best deal. Since buying his two-bedroom apartment in Bondi more than 10 years ago, he has switched home loans four times and he's now on the lookout for a better deal again.
"I don't believe the banks do anything these days to warrant
any ongoing relationship or loyalty," he says.
Even when he took out his first mortgage in 1992, the 41-year-old public servant made sure he would not be penalised if he dumped it when the one-year honeymoon rate expired.
"My view at the time was that mortgages were a short-term loan to be reassessed and renewed regularly," he says.
Accordingly, at the end of the first year it was out with the old and in with the new. His new Citibank mortgage came with a $700 application fee, but Ross says he weighed up the saving on the interest rate and an accompanying offer of a credit card with $500 in credit and decided it was worth making the break.
"It was a few hours' work to save a few hundred dollars. To me that stacks up pretty well," he says.
In most cases the decision to switch was motivated by the chase for a better deal, but Ross says about five years ago he had a change of heart.
"Eventually I got to the stage where I was going travelling for a substantial period of time, so I wanted a loan that allowed me to do that."
Because he was taking leave without pay for 15 months, he opted for a line of credit home loan where effectively there was no requirement to pay any interest during that time.
"It was a bit more expensive, but the freedom it gave my lifestyle was worth it," he says.
He's still happy with the style of the loan, but the cost of monthly fees and some slipshod service have been giving Ross the itch to switch again.
"I'm going to shop around and see if I can get a better deal," he says, hopefully.
HOW IT WORKS
From July 1, new provisions of the Uniform Consumer Credit Code will require credit providers and finance brokers to show a comparison rate on any advertising containing an annual percentage rate. This includes internet, television and print advertising. Failure to include the comparison rate on advertising material can result in fines of up
to $500,000.
The comparison rate is designed to show the true cost of a home loan. It includes the interest rate, establishment fees and ongoing fees. It does not include government fees and charges or fees based on borrower's behaviour, such as redraw fees or break fees.
Prospective borrowers must also be given a comparison rate schedule with any application form for credit. This will show a comparison rate for that product for 13 different loan terms and amounts.
Credit providers and finance brokers must also display and make available comparison rate schedules at their offices.
DOING THE RESEARCH
First-home buyer Sharon Dumigan decided to steer clear of honeymoon deals when she was choosing the mortgage for her Gladesville apartment. Home loans with honeymoon rates were among the options presented by her mortgage broker, but she thought they might be "a bit restrictive".
The 31-year-old marketing professional explains she wants to pay off the mortgage on her two bedroom apartment within 10 years, so her top priority was to find a loan with a high degree of flexibility.
"Often in the first couple of years there is only a certain extra amount [mortgages with honeymoon rates] will allow you to pay off," she says.
As well as doing some of her own research, Dumigan also listened to the advice of friends, who cautioned her against being locked into fixed rates.
"Lots of friends with mortgages had said they would have been much better off if they had a mortgage with non-fixed repayments," she says.
In the end, with the aid of a Mortgage Choice broker, she signed up to a standard variable loan with St George Bank at 5.97 per cent.
"I quite liked the sound of that product. I've been banking with St George for quite a long time, and I had a car loan with them years ago," she says.
Apart from offering flexibility, the loan also fit the bill on fees. Because she was eligible for a professional package, she paid a $300 establishment fee, instead of $600. The ongoing fees are $5 a month.
Dumigan felt particularly strongly that she didn't want to pay over the odds for an extra credit card that she didn't really need.
"I know some people who pay $300 or $400 [in ongoing fees] a year," she says.
© 2003 Sydney Morning Herald