Pitfalls in financing a house
20/05/2003 By Shaik Osman Majid

Advertisements are enticements, especially those by financial institutions offering housing loans that are short on details but loud on benefits.

High on the enticement list is the declaration that processing fees would be waived. The waiver is purveyed to constitute savings. But if paperwork is an intrinsic part of the loan, how tangible is this benefit?

Competitiveness among lenders is evident in their other offerings. Time was when financing was capped at 70 or 80 per cent of the purchase price. Today, almost all financiers are willing to lend up to 95 per cent. When then is the attraction in this claim?

Most, if not all, throw in personal accident insurance policies, a few as high as RM200,000 depending on the loan amount. The insured sum or portions can only be claimed when life or limb is lost. As for hospitalisation, only the small print reveals the extent of the cover, if at all.

True, house buyers these days are better informed. They can see through the spurious claims.
They would like to know the total costs that their loans would entail. This is what the financiers do not tell all, at least upfront. They only give a ballpark figure. Herein lies the source of pitfalls the borrower would encounter after he has signed up to finance his house.

The problem starts with the marketers of loans in booths set up by developers at their launches or with customer relations personnel manning the telephones in the back offices of banks. Many, and the number is increasing, are mere agents, not employees of the lenders.

True, armed with statistical tables, they would be able to brief potential clients on loan eligibility, that the first year is free of interest or that a rate of 3.25 per cent is imposed for the first two or even three years, the attractiveness of one loan package as opposed to another, et cetera.

Not many of these agents explain the hidden costs. For one, the loan agreement, even though it is a standard format, is prepared by a legal firm which means the fees have to be incurred by the borrower. Another thing is the stamp duty levied on the loan document to authenticate its legality which must also be paid by the borrower.

The agents, because their remuneration is based on commissions, are often little inclined or ill-prepared to explain crucial details that add to the costs of a loan. Few of them know what constitutes the base lending rate (BLR), the reasons why the borrower must obtain a mortgage reducing term assurance (MRTA) policy as well as a fire insurance cover for the house used as collateral to obtain the loan.

This is further illustrated by the ignorance I encountered among the staff who responded to my calls to three different banks enquiring about their loan plans. All three patiently clarified what the abbreviation BLR stood for. But they could not answer the question why it was not a fixed rate. Neither could they explain the imposition of the additional half per cent to the base rate. One ended our discussion with a pledge to return my call. The other two referred me to superiors whose lines were either perpetually engaged or continuously unattended.

If loan marketers employed by bankers cannot explain how the BLR is arrived at, why it is not a constant figure, or the reason for the imposition of the extra half per cent, what information do borrowers have to understand the real costs of a housing loan?

But understand they must for they will ultimately have to pay between 150 to 250 per cent of the loan in interest alone, depending on the prevailing BLR and the tenure of the loan. They should also be aware of the costs of buying the MRTA policy which requires only a single premium and the fire insurance cover that has to be renewed annually throughout the loan repayment period.

First, let us look at the BLR. It is not computed by any esoteric formula. It is simply the costs of funds to the bank plus operational overheads, provisions for bad debts and profit margin.

The costs of funds to the bank cannot be arrived at by estimating the interest it credits on deposits as money is placed in different types of accounts that yield varying rates. But one benchmark is available in the form of the three-month Kuala Lumpur Inter Bank Offered Rates (Klibor).

The Klibor is the interest banks pay when they borrow from one another, rendering it a reliable measure of the cost of funds. And the three-month Klibor has averaged 3.0 per cent over the past several months. That is what they pay when they borrow. What do they charge when they lend?

The average current BLR is 6.45 per cent. What is more, they add half a percentage or more after the enticement of an interest-free year or a package of 2.8 per cent for year one, BLR for year two and three. Then the BLR plus becomes the operative interest rate.

This is not the only detail borrowers must realise. If they presume that the BLR would go down, they must also concede that it could conversely edge upwards. The ultimate factor is the margin lenders want to maintain.

The MRTA is the other cost that conditions of a housing loan will impose. This policy is a protective cover that assures the loan would be fully settled if the borrower dies. The premium, however, is a variable factor.

If the medical examiner gives a clean bill of health, the premium would be around a few thousand ringgit, depending on the loan sought. But if you are a diabetic or have high blood pressure or worse, a combination of both, the cover will cost as much as RM20,000.

Finally loan seekers should learn of the implications of the fire policy. One, the beneficiary is the loan provider. Two, the insurance would provide a cover equivalent to the sum taken out in loan which is invariably greater than what a house should normally be insured for.

Borrowers must remember that the value of the land is worth between a third and a half of the total price of the house. So the premium would be higher than that of a normal fire cover that carries an insurance value of about half the price of the property. Three, the borrower is not protected in the event of a fire razing down his house. This also should wise him up to buy his own insurance policy, preferably a householder's cover.

That is another detail that exemplifies the need to have a clear idea of the pitfalls in financing a house.

Shaik Osman Majid is a former teacher and journalist