Key Post What should the lender pay you for surrendering a tracker?

[Brendan Burgess]

What is a fair price to refinance a cheap tracker to a Standard Variable Rate loan

Using http://www.loanclc.com/

Loan balance| €100,000
Interest rate| 2% (ECB + 1%)
Period to maturity| 20 years
Gives a repayment|€506

Let’s assume the bank makes you an offer to move to a Standard Variable Rate loan at 5%


€76,600 @ 5% for 20 years will result in monthly repayments of €506 per month

So the lender should give you a discount of 23.4% to make such a switch.

This could be paid to you in cash or it could reduce the balance to €76,600.

Other factors to consider

The tracker has a price promise. The Standard Variable Rate loan has no such promise and the 3% extra could increase further.

On the other hand, it is argued, that the gap between Standard Variable Rates and tracker rates will fall when Irish banks return to normal.

If you might be repaying your mortgage before the 20 years is up, then the discount would be less than 23.4%

 

[Mpsox]

One group of people who may want to consider such an offer is those with a high level of personal debt + a tracker. It may, in some circumstances, make more sense for such people to use some or all of the cash they receive from the bank to clear that personal debt

 

[daymoh]

Am I right in thinking that people with trackers who are renting out their homes will do well out of this as long as they get a fair discount for surrendering their trackers?

The capital portion of their mortgage payment would be reduced while the interest portion is increased. This means that their taxable rental income is reduced?

 

[NorfBank]

The tracker has a price promise. The Standard Variable Rate loan has no such promise and the 3% extra could increase further.

Or the ECB rate might go through the roof and variable rates end up being cheaper than trackers.

There's a lot of Mystic Megism involved in any speculation about the future of interest rates. Who knows, the ECB could be gone in 12 months and trackers will then be scrapped anyway. Not scaremongering just saying..

 

[Brendan Burgess]

One group of people who may want to consider such an offer is those with a high level of personal debt + a tracker. It may, in some circumstances, make more sense for such people to use some or all of the cash they receive from the bank to clear that personal debt

This is a very interesting point.

If the bank gives you €20k which you can use to pay off a CC at 15%, then it would be good value (As long as you don't run up a CC bill again.)

In a similar way, if you really need €20k cash and would have to borrow it at very high rates, it could be worth switching off your cheap tracker to get the cash payment.

 

[Mpsox]

I do however think there needs to be some guidance from Revenue regarding the tax implications of a bank simply giving money to someone (even if they are getting something in return)

Lastly there were some comments elsewhere here that tracker mortgages could become as dear as variable mortgages in time if the ECB raises rates. That's unlikely to happen since banks have normally raised variable rates when the ECB raises it's rates, hence the gap between variable and trackers may remain stable

 

[monagt]

"That's unlikely to happen since banks have normally raised variable rates when the ECB raises it's rates, hence the gap between variable and trackers may remain stable"

It was "unlikely" that we would have a HARD landing!!

Why bring Revenue into this? If I get 3k of a car in the garage - do I pay tax on the discount..........even 3 for 2 in the supermarket.

If a lender discounts a loan then you say it may be taxable - have we gone mad?

 

[Mpsox]

The PTSB proposal reported in the press said that they would discount the mortgage or pay it in cash. I'm not saying it's taxable, I'm saying we are in unchartered territory here and it would be good to get some clarity around the implications. It's potentially a far more major decision then buying a few apples.

 

[monagt]

True about apples but where do we draw the boundary?
A 3k discount is not a trivial amount and whats the difference between that car discount and a mortgage loan discount of 3% on a 100k mortgage?

A statement from Revenue would be nice but not practicable for every permutation and combination.
Does that mean that if Institutions move to "burden sharing" on the overpriced mortgages the young have then they should then tax the mortgage holders on the benefit derived?

We could go around in circles on this

 

[Brendan Burgess]

Am I right in thinking that people with trackers who are renting out their homes will do well out of this as long as they get a fair discount for surrendering their trackers?

The capital portion of their mortgage payment would be reduced while the interest portion is increased. This means that their taxable rental income is reduced?

That is a very good point, which I think is correct.

 

[Duke of Marmalade]

Am I right in thinking that people with trackers who are renting out their homes will do well out of this as long as they get a fair discount for surrendering their trackers?

The capital portion of their mortgage payment would be reduced while the interest portion is increased. This means that their taxable rental income is reduced?

This ties in with another post about tax. Carry your argument to extreme - the bank could reduce the loan to a fraction of its value but charge 20% interest. What gives here is that the forgiveness of the loan should be a taxable event. In fact a reduction of a debt is defined in the Tax Acts as a chargeable event for capital gains tax purposes.

 

[Duke of Marmalade]

One group of people who may want to consider such an offer is those with a high level of personal debt + a tracker. It may, in some circumstances, make more sense for such people to use some or all of the cash they receive from the bank to clear that personal debt

You are assuming that the bank will pay cash i.e. keeping the 100K loan outstanding but increasing the repayment rate to 5% standard variable and paying a lump sum of 24K as compensation for the increase in repayments. It is much more likely that any initiative will take the form of reducing your loan, leaving the repayment unchanged and no payment of cash. Of course, if you can then remortgage back to 100K that would release the cash.

 

[jhegarty]

The problem that I see with the math is the assumption that the spread between trackers and variable rate will always be 3%.

Working out the where the money goes on a tracker is simple:

ECB + Banks Margin = Total

A variable rate is under the banks control to vary depending on conditions, but under normal circumstances it's:

Euribor + Banks Margin = Total

But Ireland isn't in normal circumstances. There is extra risk in the lending price because all our banks are in trouble. We are paying:

Euribor + Extra Risk + Banks Margin = Total


Going back in time to 2005 (http://www.tribune.ie/article/2005/jun/12/ptsb-to-review-unfair-tracker-policy/) we see PTSB with a tracker at 3.1% and standard variable at 3.55% a .45% spread.

Over the last few years a spread has grown to cover the extra risk. This is the increase PTSB has had to it's variable rate , when there was no change to the ECB.

At some stage in the future the extra risk will go away (could be 5/10/15 years time , but will happen). At that stage the standard variable should drop back to a smaller margin over the ECB. This means that you won't be paying the extra 3% worked out in the OP for the full 20 years.

 

[NorfBank]

Going back in time to 2005 (http://www.tribune.ie/article/2005/jun/12/ptsb-to-review-unfair-tracker-policy/) we see PTSB with a tracker at 3.1% and standard variable at 3.55% a .45% spread.

And since then at times the variable rate has actually been lower than the tracker rate.

I don't have a link unfortunately but I remember discussing/arguing with a client about not going with the variable over the tracker even though nominally the variable was a lower rate. IIRC, it was EBS where the variable was less than the tracker in around 2006/2007. He went for the variable in the end..

[broken link removed]

 

[Sunny]

At some stage in the future the extra risk will go away (could be 5/10/15 years time , but will happen). At that stage the standard variable should drop back to a smaller margin over the ECB. This means that you won't be paying the extra 3% worked out in the OP for the full 20 years.

You will never again see variable rates drop to such a thin margin to the base rate.

 

[Brendan Burgess]

Hi Jhegarty.

I am struggling to understand this. Is the following a correct restating of it?

"Banks have to pay a very high price to attract deposits -e.g. ECB + 2%.
As a result they have to charge their SVR mortgage holders a higher rate e.g. ECB + 4% to make a profit.
When the market returns to normal, the banks will be able to get deposits at ECB-1%.
They will then be able to lend to their mortgage holders at ECB + 1%"

We are not in normal times. But 2005 was not normal either. The Irish mortgage market was ridiculously over-competitive with some lenders offering tracker mortgages at ECB+ 0.5%.

It's very hard to see anything like this returning in the next ten years, if ever.

But your overall point is probably valid, that the 4% margin over ECB will probably drop at some stage.

 

[Duke of Marmalade]

Jhegarty makes an interesting point. For it to be rational for banks to "buy back" 3% p.a. they must believe that they will lose 3% p.a. for the remainder of the term. They are probably losing 3% and more at present for two reasons:

1) Their funding costs have gone through the roof. In a sense this one can be removed by selling the mortgage pool to a buyer who does not have those funding costs or alternatively selling them off as a segregated pool. This is I think in essence what they are trying to do. So there isn't really a case for the banks to pay their customers to be spared these funding losses.

2) The default risk on mortgages is much higher than the Tracker margin. The problem with buying out this risk is that (a) hopefully it is temporary, and (b) you would be buying out this risk form the majority who are not actually at risk and still be left with substantial defaults.

All in all, it is difficult to see how a rational buy out formula can be devised.

 

[jhegarty]

You will never again see variable rates drop to such a thin margin to the base rate.

Never the full way back , but this is not normal times either. Variable rates are at an abnormaly high rates.

The normal situation is somewhere in the middle between the 2005 razer thin margin , and today's Irish banks are bankrupt rates.

Hi Jhegarty.

I am struggling to understand this. Is the following a correct restating of it?

"Banks have to pay a very high price to attract deposits -e.g. ECB + 2%.
As a result they have to charge their SVR mortgage holders a higher rate e.g. ECB + 4% to make a profit.
When the market returns to normal, the banks will be able to get deposits at ECB-1%.
They will then be able to lend to their mortgage holders at ECB + 1%"

Spot on

We are not in normal times. But 2005 was not normal either. The Irish mortgage market was ridiculously over-competitive with some lenders offering tracker mortgages at ECB+ 0.5%.

It's very hard to see anything like this returning in the next ten years, if ever.

But your overall point is probably valid, that the 4% margin over ECB will probably drop at some stage.

Might not happen for 10 years. But we are talking about 20 / 30 years time. 30/35 year mortgages were all the rage in 2005 , they still have 24/29 years to run.

 

[staff]

I bought my house back in 1999 and to be honest I was very naive at that time. When coming off my one year fixed I was offered either a tracker or a SVR and at the time the SVR was cheaper (not by much) and as I didn't understand exactly what a tracker was back then I went for the SVR.

 

[Brendan Burgess]

In a sense this one can be removed by selling the mortgage pool to a buyer who does not have those funding costs or alternatively selling them off as a segregated pool. This is I think in essence what they are trying to do. So there isn't really a case for the banks to pay their customers to be spared these funding losses.

All in all, it is difficult to see how a rational buy out formula can be devised.

Hi Duke

Even if funding was not a problem for you, how much would you pay AIB to buy my €100,000 ECB + 1% repayment mortgage with 20 years left on it?

Let's assume it has a low loan to value and good credit.

I am guessng that you would not pay more than €75,000 for it. If so, then it would be better for the bank to accept €76,000 from me, the mortgage holder, rather than €75,000 from you.

All in all, it is difficult to see how a rational buy out formula can be devised.

Is it not just like any other forecast? You have to make assumptions and base the formula on that. If AIB offered me a 2% discount on my 20 year mortgage now, I would decline it. If they offered me a 50% discount, I would take it.