The Borrowers

As we approach the nth year of the debt crisis, living within our means is the order of the day. However, credit is the lubricant that enables the economic machine to function smoothly and it’s not always practical to wait until you’re able to pay cash. Buying a home is an obvious example. Here are some points to bear in mind before approaching a bank for a mortgage.

Think ahead

When it comes to buying your own property, the natural tendency is to borrow as little as you can and pay it back as quickly as possible. Poor stock market returns and low cash deposit rates have reinforced this mindset. In reality, though, the key to successful financial planning is to anticipate what is likely to occur in the future rather than to expect a re-run of the immediate past. Everything in economics is cyclical, so it is wise to anticipate change. Even if you don’t think you need much in terms of mortgage funding for your home purchase, always look to optimise your borrowing, as there are many advantages to maximising the amount of mortgage loan finance you can obtain.

Low interest

Low interest rate loans mean that the ‘hurdle’ rate your investments have to match to cover the cost of borrowing these extra funds is modest.

Inheritance tax

Be aware that when substantial sums are tied up in property, inheritance tax planning will be problematic.

Debt

There is a very real risk that the European Central Bank will have to follow the inflationary policies currently being adopted by the British, Japanese, Swiss and US governments, as it is unlikely that austerity measures and increasing taxes alone will reduce government and personal debts sufficiently within the foreseeable future. Fortunately, when governments use inflation to reduce debts, the real value of all debts, including mortgage loans, is reduced.

Illiquid asset

If you want to retain access to your funds, remember that money held outside property remains accessible at any time for any purpose, whereas money paid to buy property becomes illiquid.

Cashflow

Unless the purpose is housing-related, loans are usually expensive and have to be repaid within a few years, leading to high monthly repayment commitments. So, if you are going to have a loan, make it a house loan. It is the only loan that allows you to spread repayments over decades thereby minimising the effects on your cashflow.

Control

If you take out a larger mortgage loan than you need, the surplus funds are your money. Money paid into a property, however, can only be accessed via a loan; it is the bank’s money, not yours. As a result, if you need funds for any reason at a later date, don’t be surprised if the bank takes advantage of this situation when it comes to terms and conditions. In certain circumstances, your request for a loan may even be declined.

Golden rules of borrowing

• Look to obtain the longest loan term possible. This allows you to hold on to money that, net of inflation, is costing you very little for longer.

• Depending on the interest rate comparisons, it is usually better to opt for a variable rate than a fixed rate. Belgians are very conservative with their finances and look to fix their loan rates for as long as possible. Unsurprisingly, bank profit margins tend to be wider on these more popular long-term fixed rates. Rather than fixating on the idea of paying exactly the same monthly payment in 10 years’ time as today (when the real value of the payments will have shrunk dramatically due to inflation), it makes more sense to focus on the type of loan which will cost the least overall. This is likely to be a variable rate loan, so if you can cope with payment levels that fluctuate, you are likely to end up paying less interest overall.