16 Jul 2007 | 4 comments | Wealth Management | Comments feed

Beware of the Lock-in Period of your Home Loan Offer Letter

When you are taking up home loan to finance your house purchase, I urge that you take the time to read every words in the offer letter before you sign it. If you find that there is too much details for you to look at them in depth, ask these important questions for thorough explanation before you sign the mortgage offer letter.

One thing to be aware of is the lock-in period. Lock-in period is the time frame when you do a full settlement of your loan in the first few initial years of your loan tenure, the lender (or the bank) can impose a penalty. This is a sample of the full redemption clause taken from my own home loan offer letter.

Image: Full redemption term in a home loan offer letter.

Notice that if I settle the loan within five years from the first draw down date, I will have to pay 3% from the original loan amount or RM5000 whichever is higher.

For example, if my original loan amount is RM200,000, when I choose to settle the loan or refinance it to other banking institution, the amount I need to pay for penalty is:

RM200,000 x 3% = RM6,000

Before you sign the offer letter, there are two particular issues that you need to understand:

1. Draw down date or disbursement date

Draw down date is the date when the bank release payment. It is also known as disbursement date. For completed building, this won’t be an issue. But if you are financing home which is still under construction, please be aware. For example, your home is still incomplete, CF (Certificate of Fitness) is not yet obtained. You bought it in year Jan 2005. The bank will release a portion of your loan to the developer by stages. Let’s assume that it takes 2 years for your home to be completed.

Image: Home loan draw down date illustration

If the banker calculates the lock-in period from the 1st draw down date, you won’t be penalized if you refinance your home loan on April 2010. If the period commences from the full draw down date, you would have to wait until 2012 Jan to fully settle your loan penalty-free. That means you are actually locked-in more than 5 years total.

Conclusion: Demand the lock in period commencement on the first draw down date.

2. Penalty on outstanding loan or original loan amount

Some bankers calculate the penalty on the outstanding loan plus all the capital repayment. Some bankers charge penalty on the original loan amount. Let’ say you intend to settle your loan earlier after 3 years, the former will impose less penalty compared to the later.

Example:
Original loan amount - RM200,000
Outstanding loan amount at the time of settlement - RM180,000

Calculate from original loan amount: penalty = RM200,000 x 3% = RM6,000
Calculate from outstanding loan amount: penalty = RM180,000 x 3% = RM5,400

Conclusion: Demand penalty to be calculated based on outstanding loan amount plus capital repayment instead of the original loan amount.

I wish that you will be able to negotiate a better deal for your home loan through this article.

« How to Settle Your Loans Earlier | Money Lessons from Tranformers movie »