A more even spread of interest charges over period of
loan proposed
By Kelvin Wong
AN OUTDATED way of calculating interest payments on car loans,
which penalises borrowers for paying off loans promptly, looks set
to be replaced.
In its place is likely to be a fairer repayment method that spreads
interest charges more evenly over the loan period. This has been
recommended by a task force set up to review the 35-year-old Hire
Purchase Act.
Task force member Ng Yuen, a lawyer, who chairs the Consumers
Association of Singapore education committee, told The Straits
Times yesterday that a proposal will be sent to the Ministry of
Trade and Industry (MTI) in about a month's time.
The existing Act governs cars that cost up to $55,000 (without a
certificate of entitlement), and the task force wants a 'statutory
rebate' clause to be abolished.
Known in the industry as the Rule of 78, this formula builds in a
disproportionately large amount of interest into the early years of
repayments.
For example, someone who takes a 10-year loan of $100,000 and pays
it off in four years, gets a rebate on the remaining six years'
interest. When calculated according to the Rule of 78, it means
that the rebate for interest charges incurred in the remaining
six-year period is less than if the interest had simply been
pro-rated.
This is because more of the instalments were used to service
interest payments than in lowering the principal sum owed.
The proposed new method is fairer because it spreads out interest
more evenly. It means that borrowers will end up with smaller
outstanding balances if they pay off the loan before it is
due.
According to figures from DBS Bank, a car buyer who terminates his
loan after four years will still owe $65,831, after taking into
account interest and the rebate, going by the current market
interest rate of 2.45 per cent for a 10-year loan.
For 10 years, that interest comes to $24,500. This is worked into
the instalments such that much of the initial repayments do not
reduce the principal but just pay the interest.
The task force recommends calculating interest each month based on
what's left of the sum borrowed. This would result in the buyer
owing some $422 less.
No rebate would apply since the buyer pays interest only up to the
point when he terminates the loan.
With interest rates so low now, the difference may not seem like
much. But if interest rates rise, the change will make more
difference.
Also, if borrowers are not penalised for terminating car loans
early, they may be prompted to refinance with banks or finance
companies which offer them better deals.
Whether the change will create a buzz in the industry remains to be
seen.
'Demand for cars is more or less still controlled by the quota, not
so much on car loan packages,' said Mr Jeremy Soo, DBS' managing
director for consumer banking (secured loans).
MTI said, when contacted, that it would put up the task force's
proposed amendments for public consultation.
It plans to table amendments in Parliament before the end of the
year.