What is a comparison rate?
When an interest rate is advertised on a home loan, have you noticed there is a comparison rate beside it?
Many people just focus on the interest rate and don't notice the comparison rate or even know what it means, when in reality it is a useful tool to help compare the cost of different loans.
The comparison rate is a percentage amount calculated by adding together the interest rate, plus certain fees and charges that may apply to the loan - e.g., establishment, approval, upfront or ongoing fees (does not include government charges like stamp duty or fees that can't be calculated accurately for comparison purposes).
It was introduced to ensure that banks and lenders gave consumers a way to see the total cost of a home loan at a glance without having to delve into the fine print. Because all lenders use a standard formula, borrowers are able to compare the true cost of a loan before making a commitment.
It is particularly useful to look at the comparison rate when faced with a temptingly low 'honeymoon' rate, because it shows you upfront what the interest rate will jump to at the end of the honeymoon period.
Of course the comparison rate is not the only factor to consider when choosing a loan. You should also take into account all the features and benefits that make a loan attractive, such as redraw, offset and flexible repayment periods.
Also keep in mind that advertised comparison rates are calculated using a formula made up of a loan amount (e.g., $400,000), loan term (e.g., 30 years) and payment frequency (e.g., fortnightly), which of course may not always reflect your particular situation.
Need further explanation? Give us a call and we'd be happy to help.