Tuesday, July 04, 2006

[RealEdge] The New Paper : Home loan schemes , Finding the best scheme for your idle cash

The Electric New Paper :
Home loan schemes
Finding the best scheme for your idle cash
HOW can you earn 3 per cent interest on your idle cash? That's easy. All banks offer high rates for fixed deposits. UOB and OCBC also offer them for your CPF money.
By Larry Haverkamp (Doc Money)
mail@AskDrMoney.com
04 July 2006

HOW can you earn 3 per cent interest on your idle cash? That's easy. All banks offer high rates for fixed deposits. UOB and OCBC also offer them for your CPF money.

The drawback is they require lock-ins for as long as one year and minimum balances as high as $50,000.

Now for a more challenging question: How to earn even more, like 3 to 4 per cent with NO lock-in period and NO minimum balance? While we are at it, let's toss in unlimited cheque writing as well.

Wow. Is it too good to be true? Yes, it is true but not widely known. It is called a current-linked account (CLA) and it works by linking a bank's home loan to a current account with checking.

It works like this: Your current account will earn exactly the same interest rate that you pay on your home loan. If your home loan costs 4 per cent, then your CLA will offset it by paying you 4 per cent.

Does it mean that your home loan is free?

Yes, if you have enough cash. If you have a $200,000 loan and $200,000 in your CLA, the two are offsetting and your home loan will cost you nothing.

To participate, all you need is some spare cash. And you don't need much since a CLA has no minimum balance. Even $1 will do.

I call it a killer product because it has the potential to kill the competition. Once people find out about it, I expect thousands will switch their home loans to the four banks offering CLAs (see table).

Here are some important facts about CLAs which I have put into an FAQ format:

Is it worth converting your HDB loan to a bank loan in order to get a CLA?

No. A CLA is good but it is not that good. An HDB concessionary rate home loan charging 2.6 per cent interest is still the best deal in town. Hold onto it for the full term of the loan.

Suppose you have a bank home loan. If you pay off part of it, isn't that the same as taking out a CLA to offset your home loan interest?

Not exactly. The drawback is once you pay down your home loan, you can't get it back again. With a CLA you can. How? Simply write a cheque to withdraw your money. When you do that, it has the same effect as increasing your home loan. On the other hand, suppose you pay down your home loan. If you need the money later, getting it is not so easy. You must take out a new term loan or an overdraft facility. These cost more than a home loan.

Which bank offers the best CLA deal?

Without question, it is Citibank. Three other banks offer CLAs. All are better than conventional home loans. But Citibank's CLA has four big advantages that other banks don't have: (i) Its minimum loan size is only $100,000,

(ii) it can be used for private or HDB loans, (iii) it can be used for fixed or variable rate loans and (iv) a CLA is built into all of Citibank's home loans, so there is no extra charge for it.

Does it mean that all bank home loans will eventually go to Citibank?

Perhaps. But bankers are smart people and I expect competition would force them to offer current linked accounts as good as Citibank's. If so, consumers will be the ultimate beneficiaries. It is free enterprise at its best. To work, all it needs is fully-informed consumers.


How to create money from thin air

WITH a CLA, interest paid and received is the same. So why do banks bother if they only break even?

Even though profits are zero, banks benefit because a CLA brings in new money. Of that, banks can lend out 80 per cent, which is profitable. They are required to keep the other 20 per cent in cash and short-term investments.

The economy also benefits. For every $1,000 banks receive in current account deposits, they can lend out $800. That money eventually finds its way to other banks which are subject to the same rules.

In round 2, the banks can lend out $640 ($800 x 0.8). This process continues until it eventually generates new lending and deposits of $5,000 (1/0.2).

It means the initial $1,000 deposit will create $5,000 that didn't exist before. In a way, money has been created out of thin air.

Economists call it the money multiplier. You'll find it in every banking system in the world and it keeps economies growing and vibrant.

DR MONEY'S QUICK QUOTE

'Every man in the world is better than someone and not as good as someone else. '
- William Saroyan (author, 1908 - 1981)


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