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How do comparison rates really work?

Comparing apples with oranges doesn’t make sense. To make finding the right loan easier, and to make advertised rates as transparent as possible, we have comparison rates.

You’re looking for the best mortgage deal and you see something advertised at ‘3.8%’. Underneath that seemingly too-good-to-be-true rate it reads ‘4.9% comparison rate’. What does this mean?

In 2003, an amendment was made to the Uniform Consumer Credit Code (UCCC) that required comparison rates to be included in advertising. This change was made so that customers were not easily misled when it came to home loan interest rates.

The comparison rate is designed to help show customers what the true cost of a loan is. The comparison rate includes all of the fees and charges that can be applied to a home loan as well as the actual interest rate over the loans full term. In some instances, lenders offering the lowest rate may not actually boast the cheapest loan, which is what a comparison rate can show.

This allows consumers to compare apples with apples, to an extent. It does make it much simpler to hold two loan products side by side and, regardless of whether one has a slightly higher interest rate and no fees while the other is a super-low interest rate with high fees, see at a glance that one is the better deal financially.

However, it isn’t always this simple. Fees and charges, the rate at which principle is paid down and the total interest paid over the loan term all change depending on the loan amount and on the term, so you need to delve a little further into how that comparison rate is calculated.

While the comparison rate itself must be as prominently displayed as the interest rate – not buried in tiny fine print – somewhere on the advertisement, there will be a statement along the lines of ‘Comparison rate calculated on a loan of $150k for a term of 25 years, with monthly repayments’. If your proposed loan is $900k the comparison rate for your loan will be vastly different. An annual fee of $500 on a $150k loan is going to make a bigger difference to the customer’s comparison rate than the same fee on a $900k loan balance.

To get around this, all 40 Forty clients are provided analysis of 3 or more loan products at the borrowing amount needed to fulfil their objectives. Modelling is done to show the true monthly cost as well as the cost over the longer term. That way, we can truly compare apples with apples.


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