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Interest rates – and home loans – have risen sharply since the start of 2022. This has been the result of central banks around the world increasing interest rate in a bid to curb rising inflation.
To get a sense of how much inflation has risen, we need only look at consumer prices in 2022. Consumer prices rose 6.1% in 2022, following a 40-year average inflation rate of 1.8%. This was felt not just in Singapore, but globally, with the 2022 U.S. inflation coming in at 6.5%.
The U.S. Federal Reserve Has Increased Interest Rates By Over 5% In The Past 18 Months
Since Singapore is a small and open economy, and our only monetary policy is centred on exchange rates. Interest rates in Singapore is determined by global interest rates conditions. In this regard, the U.S. Federal Reserve is a major determinant of interest rates directions in Singapore.
In the span of 18 months, the U.S. Federal Reserve has increased interest rates from 0%-0.25% (in March 2022) to 5.25%-5.50% (in July 2023). In total, there have been 11 rate hikes in 2022 and 2023.
This has been an unprecedented pace of interest rate adjustments. While there are indications that we are at the tail-end of interest rate hikes, there may potentially be one more round of hikes left to go. Expectations also point to a higher for longer interest rate environment – which means we should not expect interest rates to start dipping any time soon.
Source: U.S. Federal Reserve
Interest Rates In Singapore Are Already Higher, And May Go Higher
Prior to the recent interest rate hikes since March 2022, many of us may had been accustomed to seeing interest rates on our home loan package hover below the 1.5%-mark. All that has changed today.
We can also go on various home loan comparison website to check current interest rates. For example, on Redbrick, we can compare private home loan rates offered by 16 banks and financial institutions in Singapore.
From our search, the cheapest home loan package in the market today offers a first-year interest rate of 2.6%. Despite being a 3-year fixed rate home loan package, the rate is only fixed at 2.6% for the first year. This means interest rates may increase after the first year – for the second and third year. After the three-year fixed-term, we either have to refinance or reprice our home loan package or pay the floating rate.
This is not entirely unexpected as financial institutions typically offer a better interest rate at the start to attract us to take a home loan package with them.
Of course, we can also take a floating rate home loan package to begin with. These are typically more expensive, but interest rates are not fixed and may come down (or go up) in tandem with market interest rates. Given the unpredictable geopolitical landscape and moderating inflation rate, we may not see the Federal Reserve raise interest rates much more.
Read Also: Interest Rates Are Going Up. Should I Be Refinancing My Mortgage As Soon As Possible?
What Happens To Our Home Loan If Interest Rates Rise By 1%?
In essence, when interest rates rise, the biggest concern for home buyers and home owners will be that home loans become more expensive. While the amount we borrow stays the same, even a few percentage points increase in interest rates can snowball into a huge difference, especially since most home loans span over 20 to 30 years.
Let’s take the example of a $1.35 million home. The maximum we can borrow is 75% of the property price – or about $1 million. Let’s see what happens when interest rates rise by 1%. Of course, even if interest rates increase, the total amount we owe does not change.
On Redbrick, we can use a mortgage calculator to estimate our monthly repayments. For a $1 million home loan at 3.0% interest rate, our repayment is $4,801 a month or $57,612 a year. To qualify for this loan, we would need an income of over $8,000 a month.
Source: Redbrick
If our home loan interest rate increases 1%, we can simply do the same calculation using a 4% interest rate. Inputting the new figure, we can already see that our monthly repayment is $5,344 a month or $64,128 a year. This is about $540 more each month or $6,500 more each year. This is a substantial sum of money (to us at least).
From this, we can see that paying just a slightly higher interest rate over the course of our 25-year home loan, can cost us dearly.
Source: Redbrick
Besides having to pay more for your home loan, home buyers will also be affected by the Total Debt Servicing Ratio (TDSR) when interest rates increase.
As we’ve already seen, an increase in home loan rates will translate to a higher monthly home loan. In turn, this can affect our ability to afford a home. This may force us into buying a less costly home or having to fork out a bigger downpayment for our home purchase.
Even though the TDSR does not affect most existing home owners, the higher interest still translates to a lot more money being paid in interest over our home loan.
What Should We Do When Interest Rates Are High?
Those buying a home may want to choose a fixed home loan to limit our exposure to the uncertain rate hike environment. Of course, we must consider current interest rates as well. For example, the risk-free rate in Singapore, determined by treasury bills (T-bills) is already paying over 4% p.a.
On the other hand, if we believe the rate hike is at the tail-end, we could opt for a floating rate package – which may give us a more affordable home loan in the near future.
For existing homeowners on a fixed home loan package, we do not have to worry about anything…yet. When our fixed-term ends, usually in 2 to 3 years depending on how long ago we took our home loan, we have to either reprice or refinance our home loan package. Eventually, the higher interest rate environment will still bite us.
For homeowners on floating rate packages, most of you may have already received notifications from your bank telling you that your mortgage rate is going up. You can consider refinancing or repricing your home loan to a fixed rate package for greater interest rate certainty. Of course, you need to take into consideration the administrative costs that you must pay when refinancing and repricing. Again, if you believe interest rates will taper in the near future, then you can stay put on your floating rate package.
For existing homeowners, we can also tap on smart solutions to minimise our home loan repayments. For example, with a trusted broker like Redbrick, we can check whether refinancing makes financial sense for us. What’s even better is that we can arrange for a personal consultation with a Mortgage Expert from RedBrick to answer our questions and help us choose the best property loan. All we have to do is fill in the contact form.
For greater peace of mind, we should also understand that this service is free for us, since brokers like Redbrick receive their commissions from the banks.
Read Also: 5 Things We Need To Know Before Taking A SORA-Pegged Housing Loan
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