We’ve had significant cuts in the interest rate this year. On 1 January 2020, the prime interest rate was 10%, and as of 22 May, it had been reduced to 7.25%. The current repo rate of 3.75% is the lowest it’s been for almost 47 years. So it’s not surprising that many of our readers have questions about making the most of lower interest rates.

Should I pay extra into my mortgage?

I took out a home loan six years ago for R790 000, with a monthly payment of R8 500 at 10.5%. Now the interest rate has dropped to 7.25%. Is it better to add additional monthly payments when the interest rate is high or low? I understand I will reduce the term of the loan and total cost, but do I save more when the rate is lower or higher?

Answer:

When interest rates are lower, your debt is costing you less money, but it also provides the perfect opportunity to pay off your property sooner. Money that was going to interest can now be allocated to capital. By continuing to pay R8 500 a month, even though your monthly installment has dropped, you effectively pay in extra to your capital each month. Also keep in mind that these low rates are expected to be short lived. Once the economy recovers and inflation returns, rates are likely to rise. By keeping your installments at the original level, you know you can absorb additional rate hikes in the future without affecting your budget.

Learn more about how interest rates work in the My Money, My Lifestyle podcast.

Should I buy a second property?

I bought my first property 18 months ago with FNB and am now looking to purchase another one soon. Will they offer me a lower interest rate as it would be the second one or should I apply for a reduction on the current one before getting another?

Answer:

The interest rate will be determined by the current prime interest rate (7.25%) and your credit risk. If you have a good payment history on your first home, that could be positive, however, the fact that you are looking to take on more debt could increase your credit risk. The bank may be concerned about your ability to meet both home loan repayments. The bank will only provide you with a home loan based on your existing income – they will not factor in potential rental income. It is best to discuss this with them and get a pre-approval on a home loan. Also consider that if you are intending on renting out one property it is better to have the most debt on that property as the interest would be tax deductible from the rental income.

I have a paid-up house and now I need to buy other property for business purposes. I have applied for a bond against my house and I have been approved. I am just awaiting for the final quotation from the bank and I will be taking a 60% bond. Am I making the right decision?

Answer:

It is important to consider tax implications. It is better for the business to pay the loan repayments as the interest would be tax deductible from any income generated from the business. The bank could use your paid-off house as collateral but issue the home loan on the business property. It is important to discuss this with them before you move ahead.

How do I use my surplus income to service debt?

I currently have outstanding debt on a car and two home loans. I am paying additional amounts on each loan of approximately R4 400. Is it advisable to split the money among all three loans or to contribute all the money to one loan until it is paid up and then move on to the next loan? Or do I invest the surplus and pay it as a lump sum after some months?

Answer:

Any additional money you pay into a loan benefits you by reducing the total amount of interest that you pay. Also keep in mind that with debt, interest is calculated daily, so it doesn’t make sense to invest (where interest is earned monthly) and pay a lump sum every few months. The sooner the extra payment is made, the more interest you save.

It does make sense to try target the more expensive debt first. In this case it is possible the car finance is more expensive, so you would want to pay that off as soon as possible. A car is a depreciating asset, so it is worth less than what you owe on it.

Given the current cut in interest rates, a possible strategy could be to keep your home loan payments the same as they were before the rate cuts. This means you are effectively paying more towards the capital repayment, and it protects you if rates increase again. You then focus the additional R4 400 on paying off the car as soon as possible. Find out if there is a residual or balloon payment you need to make provision for. Once the car is paid off, you can focus on paying off the home loans.

Should I settle my car in full?

My outstanding settlement on my car is R170 000. I have savings of this amount – is it a good idea to pay it off now?

Answer:

Given the low interest rates on deposits, you are probably earning little on the R170 000 but paying at least 11% on the car finance. It could make sense to settle the car debt. What you need to first consider is whether you have emergency savings. If not, a good strategy could be to keep some funds for an emergency and use the rest to accelerate your loan repayment.

For example, you could keep around R40 000 in a high-interest account which will ensure that you do not have to take out more debt in the case of an emergency. You could then use R130 0000 to reduce the loan. You then have two options – either you reduce the monthly installment and pay the car off over the same period, or you keep paying the same amount and pay the car off sooner. The latter option will save you a significant amount of interest.

If you already have emergency funds and choose to settle the car in total, make sure you use the saving you make from not having to pay the car installment each month to start rebuilding your savings and start investing for the long term.

Can my loan be above the maximum interest rate?

I have two personal loans that I took out in 2019 with an interest rate of 27.5%. The interest rate cuts have made no difference to these loans because they are at a fixed rate. Is that correct? I was hoping that they would be reduced to the maximum rate allowed under the National Credit Act. Is it legal to still charge me a rate above the maximum?

Answer:

There is a maximum rate that a lender can charge under the National Credit Act. This is based on the repo rate plus a specific percentage, which, in the case of a personal loan, is an additional 21%. With the rate cuts, the repo rate has fallen to 3.75% which means the maximum that can be charged on a personal loan is 24.75%.

This is what would happen with a variable or fluctuating rate linked to the repo. Unfortunately, according to the National Credit Regulator, the fixed rate agreement at the time you took out the loan supersedes any changes to the repo rate. “Where the credit agreement makes provision for a fixed interest rate, the interest rates will stay the same throughout the duration of the agreement.  Even if the fixed loan rate becomes higher than the maximum allowed, it will still be lawful as this is consistent with the fixed interest rate principle,” explains the NCR.

Your only option is to consider taking out a new loan at the lower rate and settling the loan at the fixed rate immediately. Speak to the credit providers about this option. You will pay initiation fees but this could be offset with the lower interest rate. Make sure you do your calculations first to see the net saving.

This article first appeared in City Press.