To Pay Or Not To Pay

Much discussion has been going on about paying off the housing mortgage or to take the maximum loan. Well, I would like to put forth my views.

Firstly, it depends if the loan is paid using CPF or cash. If using CPF, the constrains are obvious: (1) interest rate of 2.5%; (2) Cannot use the funds till 55/62; (3) Even if invested, there are bank charges and any current income derived goes back to being locked up. If using cash, it is a sacrifice of liquidity and possible opportunity cost.

Secondly, it depends if the loan is from HDB or the bank. If using HDB loan, the constrains are again known: (1) interest rate of 2.6%; (2) Inflexibility of loan terms; (3) Not allowed to refinance internally. If it is a bank loan, rates are generally floating, loan terms like tenor and amount can be varied.

So back to the question, to pay or not? Assumption of course is affordability is not an issue here, as this is out of the question if one cannot even pay off the loan to begin with.

For HDB loan using CPF, unless you are intending to invest your idle CPF funds and are confident of a rate of return higher than 2.6% compounded consistently, I would pay off the HDB loan.

For HDB loan using cash, switch to a bank loan.

For bank loan using CPF, I will take the maximum loan amount, but the shortest tenor. Bank fixed rates are lower than 2% at least for 3 years or some up to 5 years, since CPF cannot be withdrawn and earning 2.5%, it will maximize the returns. At the same time, if rates were to increase above 2.5% then pay off the entire loan, if not carry on to refinance after the fixed rate lock in is over at the new fixed rate lock in below 2.5%.

For bank loan using cash, this one is a little tricky. It all depends on the rate of return you feel you can achieve and how long you can carry on to achieve them. If the expected returns are consistent and above the floating rate, I will take maximum loan with maximum tenor. If rates float above my expected return, I'll pay down the loan or place in an interest offset plan and refinance in future when rates fall below my expected return.

Well, in conclusion, it all boils down to the expected rate of returns for the alternative use of the funds. If you are going to leave it in fixed deposits, then it would make more sense to pay the loan off or use an interest offset plan. Of course assuming due diligence of emergency funds, etc are already done.

Would love to hear alternative views or counter arguments. Thanks.