Breaking fixed loan

[coolcup69]

Hi guys

In February last year I fixed my $348k investment property loan with NAB at 5.9% for 2 years, paying interest only. So the loan has about 1 year to run during the fixed interest period.

Out of interest, I emailed my direct banker at NAB to ask them what the break fee would be if I wanted to revert to a variable rate. They said it would be $5,600 which I was surprised at.

I always thought the break fee represented the difference between funding costs for the bank at the time I took out the fixed rate vs now. Given current fixed rates are around ~5%, I was thinking a good proxy for the break cost would be more like 0.90% times $348k (ie 1 year of the difference between my fixed rate and current fixed rates) which equals $3000. I know that it is not a precise guess but that was my back of the envelope.

What am I missing between the NAB estimate and my own?

 

[Peter_Tersteeg]

I always thought the break fee represented the difference between funding costs for the bank at the time I took out the fixed rate vs now. Given current fixed rates are around ~5%, I was thinking a good proxy for the break cost would be more like 0.90% times $348k (ie 1 year of the difference between my fixed rate and current fixed rates) which equals $3000. I know that it is not a precise guess but that was my back of the envelope.

What am I missing between the NAB estimate and my own?

NABs funding costs aren't their actual current fixed rate. I imagine their funding costs would be closer to 4% at the moment. I've generally observed the payout cost to be roughly double what your savings would be. Your quote appears to be consistent with this rule of thumb.

 

[coolcup69]

NABs funding costs aren't their actual current fixed rate. I imagine their funding costs would be closer to 4% at the moment. I've generally observed the payout cost to be roughly double what your savings would be. Your quote appears to be consistent with this rule of thumb.

Ok cool. I just assumed the movement in their funding cost would approximate the difference in the fixed rate when I fixed vs now as their NIM hasn't moved much over the past year.

Thanks for the feedback though, very useful for future benefit.

On a side note, does anyone think there is any point me breaking this loan or should I just grin and bear it for the next year? I have no burning need for the cash. I fixed it initially because I had variable exposure on my home loan which I thought I would pay off by the time the fixed rate finished, but I will end up paying the home loan off in the next few months, much earlier than I originally thought.

 

[alexlee]

Do the sums. The break fee is 1.6% of the loan. Even if you assume a 5% variable rate (sounds very low), there's still another 0.7%. The variable rate would have to fall 0.7% on AVERAGE over the next 12 months (if they were regular drops, it means the variable would be something like 4.3% in 6 months and 3.6% in 12 months. And that's only to break even.

If say you break the loan and refinance to a 4.99% 2 year fixed that's been discussed recently, the break fee means you're actually paying 5.79% fixed.

So unless you expect variable rates to fall very quickly......

 

[coolcup69]

Do the sums. The break fee is 1.6% of the loan. Even if you assume a 5% variable rate (sounds very low), there's still another 0.7%. The variable rate would have to fall 0.7% on AVERAGE over the next 12 months (if they were regular drops, it means the variable would be something like 4.3% in 6 months and 3.6% in 12 months. And that's only to break even.

If say you break the loan and refinance to a 4.99% 2 year fixed that's been discussed recently, the break fee means you're actually paying 5.79% fixed.

So unless you expect variable rates to fall very quickly......

Yup, that is my exact thinking. I don't think it makes any sense for me to bring forward the break cost. Just testing the logic. Thank you very much.

 

[Rolf Latham]

Yup, that is my exact thinking. I don't think it makes any sense for me to bring forward the break cost. Just testing the logic. Thank you very much.

But.

as always there is a twist

if you are on the top marginal tax rate, the break cost is deductible to you in the year you incurred it.............

that may change your view.

What is your viewon where retail variable rates will be in the next 6mths ?

ta
rolf

 

[coolcup69]

But.

as always there is a twist

if you are on the top marginal tax rate, the break cost is deductible to you in the year you incurred it.............

that may change your view.

What is your viewon where retail variable rates will be in the next 6mths ?

ta
rolf

Personally I think maybe 25 to 50 points lower than now, but not much more. Clearly I've been wrong before tho!!