ARE 30 YEAR BONDS WORTHWHILE?
To lower your monthly bond repayment, you might be considering financing a bond over a period of 30 years. However, before you do, carefully consider the financial impact of the additional interest charged over the longer term loan period. You will pay far less interest if you opt for the more traditional 20-year bond.
A 30-year bond can look like an attractive option, especially with the lower monthly repayment making it seem more affordable from the onset. However, while you will pay around 8.3% less on your bond each month, over a period of 30 years, you will end up paying 64% more interest than you would on a 20-year bond term. The savings on the monthly bond repayment is not enough to justify paying the massive amount of additional interest.
Home prices have seen an upward trajectory over the past few decades, while salaries have not followed suit. Getting into the property market has become more difficult for younger generations, which is why many tend to choose a longer-term bond option. Affordability is an issue for many South Africans who are forced to find ways to cut down on repayments to get by; however, it comes at a cost over the long term.
If you purchase a home for R1 million at prime, which is currently 10.5%, on a 20-year bond term, your repayments will be R9 984. If you make no additional payments into the bond account and pay the minimum instalment over the 240-month term, you will pay back a total of R2 396 112, of which R1 396 112 is interest.
If you purchased the same property over a 30-year bond term, the monthly bond repayment would be R9 147. Again, if no other payments were made other than the monthly instalments, you would pay back a total of R3 293 061. In this instance, the interest paid over the term of the loan is R896 949 more.
If the money saved on the monthly repayment is used to pay off other short-term debt or is spent on an interest-bearing investment with a higher return than the additional interest paid on the longer bond term, it might be a worthwhile endeavour. However, if the money is spent on consumables each month, you will be in a far worse financial position in the long run. You might be convinced to opt for a 30-year bond due to the perceived short-term gain, but the accumulative effect of the additional ten year period should be considered carefully. It is imperative that the pros and cons are carefully weighed up, and an informed decision is made.
If you have purchased your home with a 30-year bond and your financial situation has changed, and you can afford to pay more into the bond – do so. It will reduce the term of the loan and overall interest paid. Regardless of the term of the loan, interest is only charged on the outstanding balance of the bond. Therefore if you pay more than you are contractually required to, it will bring down the total amount of interest payable, simultaneously cutting time off the loan period.
There are very few situations where a longer-term loan would be financially beneficial. Therefore before you are enticed by a lower monthly repayment, consider your long-term finance position.