Read the rate section of a loan offer and say how and when the rate can change.
Jason and Mei, both 34, are buying a resale condo in Sengkang (an invented example). Their mortgage broker sent them two bank offer letters for a S$600,000 loan over 25 years, each about ten pages long. On the phone, the broker summed them up like this: Offer A is 2.6% fixed, and Offer B is SORA-pegged and "a bit cheaper".
The rate on a loan is rarely one number; it is a schedule. The offer letter sets out how the rate is worked out in each period and what it can change with. A broker's one-line summary can hide how the rate changes over time, so you need to read the rate section yourself.
Mei opened Offer A and found the 2.6% on page two, in a table with three rows. The third row didn't say 2.6%. It said SORA plus 0.8% "thereafter". So the 2.6% only covers years one and two, and from year three the rate floats.
A fixed rate stays the same for a set period. For a home loan, this is commonly the first two or three years. During that time your instalment stays the same, whatever happens to interest rates generally. The fixed period almost always ends before the loan does. After that, the loan usually moves to a floating rate, and the offer letter says which one. The "thereafter" row in a rate table gives the rate that applies after all the stated periods have ended.
So whenever you see a fixed rate, always read the line below it. You need to know what you pay now, and also what you will pay once the fixed period ends. On a 25-year loan, the rate after the fixed period is the one that applies for most of the term, unless you refinance.
A floating rate has two parts. The benchmark is a reference rate that the bank does not control. The spread is a fixed margin that the bank adds on top of the benchmark, and it is stated in the offer letter. The bank fixes the spread, and the benchmark is the part that moves. When the benchmark moves, your rate and your instalment move with it.
For home loans in Singapore, the common benchmark is SORA (Singapore Overnight Rate Average), which MAS publishes. SORA loan packages are priced on a compounded average of the daily SORA rate over one, three or six months, written as 1M, 3M or 6M compounded SORA. The offer letter tells you which version is used and how often the rate resets.
Some floating rates use a board rate instead of a published benchmark. The bank sets its own board rate and can change it, so you have less to check it against than you would with a published benchmark. If your loan uses a board rate, look in the offer letter for how the board rate is set and how much notice you get before it changes. Other packages peg the rate to the bank's fixed deposit rate or to some other reference. Whatever the peg is, find out who sets it and where it is published.
Rate tables often step up over time. A common pattern is a low rate in year one, a slightly higher rate in year two, and a higher spread from year three. Read every row of the table. Write down the rate or formula for each year shown, and note what applies after the last row.
These are the notes Jason and Mei made:
Offer A: 2.6% fixed in years one and two, then 3M compounded SORA plus 0.8% thereafter. Offer B: 3M compounded SORA plus 0.5% for the first two years, then 3M compounded SORA plus 0.8% after that.
To see what Offer B means in figures, take compounded SORA at 2.0%, purely as an example. Offer B would then be 2.0% + 0.5% = 2.5% in years one and two, and 2.0% + 0.8% = 2.8% from year three. If SORA rose to 3.0%, Offer B would be 3.5% in years one and two and 3.8% from year three.
When they put the two schedules side by side, Jason and Mei saw that from year three the offers are identical: both are SORA plus 0.8%. The rates only differ in years one and two. In those years they are choosing between a fixed 2.6% and a floating rate that starts at 2.5% with the example SORA of 2.0%, and that floating rate could then move up or down. The difference was much smaller than the broker's one-liner suggested. Their real choice was between certainty (the fixed 2.6%) and a possible saving (the floating rate). Lining up the year-by-year rates like this shows you where two offers actually differ. Lesson 8.4, "Compare two loan offer letters", turns this comparison into instalments.
Home loans quote rates on the reducing balance, so the rate in the offer letter is the rate your interest is worked out on. Personal loans and car loans are often quoted at a flat rate instead. With a flat rate, interest is charged on the original sum for the whole term, even as you pay the loan down. For example, a 3% flat rate on a five-year loan works out at about 5.6% on a reducing balance, as shown in Lesson 3.2 of How money works, "Why a flat rate loan costs nearly double what it looks like".
For these loans, compare offers on the effective interest rate (EIR) and not the headline rate. The EIR includes the effect of fees as well as the flat rate, and lenders show it in their offers.
The offer letter you read for the activity can be any loan, but read its rate section the way Jason and Mei did, one year at a time.
Take one loan offer. Write down the rate for each year shown, what it is pegged to, and when it becomes floating.
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