We wish we faced this dilemma during every bonus period.
Today, over 80% of Singapore’s resident population live in HDB flats. While the cost of HDB flats are typically significantly lower than an equivalent private property, it can still be expensive.
This means taking a long-term home loan, often up to the maximum 90% or 75% limits on our HDB loan or bank loan respectively, is not an uncommon practice for those who wish to afford a home in Singapore.
We have previously written about why it makes financial sense to take the maximum HDB Home Loan you can when buying your first flat. At the same time, we also think it makes financial sense not to repay our home loan for HDB flats.
You Cannot Take Out A Home Equity Loan From Your HDB Flat
Regardless of whether we take a HDB home loan or bank loan, we cannot take out a home equity loan on our HDB flat.
This means any amount we put into early repayments for our HDB flat, we cannot take out again, even if we direly need it for any reason. The only way we may be able to see our funds again is if we sell the property.
This restriction, and others, can lead to several other financial constraints for us.
# 1 You Are Left With Less Cash Buffer
One of the problems of not being able to take out a home equity loan on our HDB flat means that if we ever face any liquidity challenges over the next 25 years, we will not have this fund at our disposal to continue paying our monthly home loan or other living necessities.
This is unlike buying a private property, where you can take home equity loans, or even investing your money in the stock market or leaving it in fixed deposits. However, it may still be better than contributing to your CPF, as you can sell your home as a last resort.
The reality is that 25 years is a long time, and nobody can predict what may transpire in the future. We may lose our job in the short-term and need some funds to tide over several months of home loan payments.
To lose a financial safety net for our home may be quite a risky move, especially if we have not set other contingencies in place. This can also be exacerbated if we purchased our home thinking both us and our spouse will continue working during the entire 25 years to repay our monthly mortgage or have financially stretched ourselves to afford the home in the first place.
# 2 Lose Your Cashflow Flexibility To Adjust Your Lifestyle
As we cannot reverse the decision to repay our home loan for our HDB, we will lose a certain amount of cashflow flexibility to lead the life we want.
Professionally, we may want to take the path less travelled and start a business we’ve always thought about doing. With enough experience and the right contacts, this could be a significantly enriching and fulfilling endeavour.
Personally, we also give up the freedom of either you or your spouse taking some time off work, for any reason – to take a sabbatical, be a stay-at-home parent to care for our newborn, look after a loved one in need – or to work in a lower-paying but more meaningful role.
Without sufficient cashflow to bolster our finances, we may not be able to make these decisions.
# 3 Your Repayments Deliver (Relatively) Poor Returns
We will be paying 2.6% and approximately 2.0% on our HDB home loan and bank loan respectively.
Any amount that we repay, we will be saving this amount in interest payments. It’s not far-fetched to invest on our own to earn a better return. Simply contributing this sum into our CPF SA will yield us an annual return 4.0%. We can also choose to invest in blue chip companies or country indexes, such as Singapore’s STI ETF, to earn even higher returns, of close to 6% to 7%, by taking more risks over the long-term.
Investing the funds rather than repaying our home loan also gives us a peripheral benefit of liquidating them to pay for our home if we face any liquidity crisis.
# 4 We Risk Having To Refund Our CPF OA
This drawback should not be a common occurrence. However, we need to understand that when we sell our home, we need to refund the 1) total amount we have taken out of our CPF Ordinary Account (OA) to pay for the downpayment, monthly instalments and/or other miscellaneous charges; 2) housing grants we received from the government when we bought the home; and 3) the accrued interest on 1) and 2).
As the refund to our CPF OA takes priority, if we sell our HDB at a poor price, during a financial crisis or at the tail end of its 99-year tenure, we may have significantly less cash-in-hand than we may expect.
In this scenario, while we may be able to use the bulk of this money to buy the next home, we would have converted our cash savings into CPF savings. If we are over 55 when we sell our HDB flat, we would also face significant constraints in using the refunds into CPF as we have to lock away the Full Retirement Sum (FRS) or the Basic Retirement Sum (BRS), in our Retirement Account (RA).
There Are Reasons To Repay Your Home Loan On Your HDB
In any decision we make, there will be pros and cons. Even if the reasons above are valid, we still realise different people face different circumstances in life, and there may exist equally good reasons for them to repay their home loans on their HDB flats. In fact we even have an article about why prepaying your home loan could be awesome.
This includes having less mental stress to continuously pay a loan for a span of 25 years. With less stress, we may be able to make other good decisions for ourselves too.
Unlike investing our funds to earn a potentially better interest return, repaying our home loan on our HDB flat gives us a guaranteed return of either 2.6% or approximately 2.0% on our HDB home loan or bank loan respectively. This is typically better than many other investments with guaranteed returns.
If you adopt a strategy of gradually prepaying your home loan each year, you will also be building your CPF OA balances and saving on your accrued interest.
Ultimately, the choice of whether to prepay or not lies with you, and you should assess your individual circumstance in life to decide whether it makes sense for you.
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Source: Dollars And Sense