This article was first published on 9 December 2019 and has updated with latest information.
Over 80% of Singapore’s resident population live in HDB flats, with about 90% of them being homeowners. 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 – regardless of whether it is an HDB home loan or bank loan – for HDB flats even if we have the ability.
You Cannot Take Out A Home Equity Loan From Your HDB Flat
The primary reason is that regardless of whether we take an 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 use these 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 we can take home equity loans, or even investing our money in the stock market and leaving it in fixed deposits, where we can cash out. However, it may still be better than contributing to our CPF, as we can sell our home as a last resort. Even then, depending on how much we need to refund into our CPF Ordinary Account, we may not have as much cash-in-hand as initially assumed.
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, requiring our funds to tide over several months of home loan payments and other living expenses.
To lose a financial safety net for our home and living requirements 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 flat, we will lose some cashflow flexibility to lead the life we want.
Professionally, we may want to take the path less travelled to 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. Ploughing our funds into our homes potentially leaves us without start-up capital or financial safety net to initially earn less or face business failure.
Personally, we also give up the freedom of either us or our 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 be limiting the lifestyle decisions we want to take.
# 3 Your Repayments Deliver (Relatively) Poor Returns
On the HDB loan, we will be paying an interest of 2.6% per annum, while on a bank home loan, we will be paying approximately 1.7% per annum.
By making early repayments, we will be saving between 1.7% to 2.6% in yearly interest payments. It’s not far-fetched to invest on our own to achieve 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 or S&P500 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 being able to liquidate them to pay for our home if we face any liquidity crisis. We could also liquidate investments more easily and without risking the roof over our heads for other big-ticket cost items such as our child’s university fees.
# 4 We Risk Having To Refund Our CPF OA
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 both items 1) and 2).
As the refund to our CPF OA takes priority over our cash-in-hand, 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 expected.
In this scenario, while we may be able to use the bulk of our money to buy our next home, we would have effectively converted our cash savings into CPF savings.
As an added consideration, if we are over 55 when we sell our HDB flat, we would also face significant constraints in using the funds channelled into our CPF to purchase another property as we have to lock away the Full Retirement Sum (FRS), or at the minimum the Basic Retirement Sum (BRS), in our Retirement Account (RA).
# 5 Unable To Refinance Or Reprice Bank Loan
This only applies if we are servicing a bank loan rather than an HDB home loan.
On a bank loan, we may look to refinance or reprice our home loan every three years or so, to enjoy the best interest rate available. However, most banks require us to have a minimum outstanding home loan amount of $100,000 before giving us the option to reprice or refinance.
By repaying the outstanding amount on our HDB flat, we may reach this figure much faster and be left servicing a sub-optimal bank home loan rate until we repay the entire home loan. Unlike repaying our private properties, we can also take a home equity loan to increase the minimum outstanding home loan if it falls under $100,000.
You May Have Valid 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 have even published an article about why prepaying your home loan could be awesome.
The reasons can include 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 1.7% on our HDB home loan or bank loan respectively. This is typically comparable or 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 over time.
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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