The Bank's Exit Fees Can Be Hefty When You Quit A Home Loan Early

Sydney Morning Herald

Saturday March 31, 2007

Annette Sampson

THERE'S a reason the banks are still reporting mega-profits - and it's not just the pitiful rates paid on most savings accounts. Over recent years, bank executives have become masters of the hidden fee. Not hidden, as in undisclosed - that would run too high a risk of falling foul of the regulators. These fees are stated in black and white, but most customers are ignorant or unconcerned because they assume they won't have to pay them.

Bank fees have come under closer scrutiny in recent weeks following a challenge by the UK Office of Fair Trading to the legality of penalty fees on bank products. If the challenge is successful, it could see banks having to refund hundred of millions of dollars and has led to questions about the legality of similar penalty fees applied here.

The main fees under the gun are penalty fees, which are totally unrelated to the actual cost of what you've done to earn the penalty. Late payment fees on credit cards and fees on overdrawn accounts are prime examples. It's a bit rich for the bank to argue that being one day late in paying off your credit card has cost it the average late payment fee of $29.

Pressure on the banks has also been heightened by a recent JP Morgan and Fujitsu Consulting report that found Australian banking fees are among the highest in the world. The report found the average Australian pays up to $170 more each year in bank fees compared to customers in Britain or Canada.

Reserve Bank figures released last year show the banks are reaping more than $9 billion a year from bank fees, with 40 per cent of that coming from ordinary customers.

But while we all now accept (with a grizzle) the inevitability of account-keeping fees and some transaction fees, it is the one-off fees that can come out of the blue and add substantially to banking costs.

Research company Cannex has looked at the impact of one of these fees on consumers - the exit fees that apply to many home loans.

Most of us don't pay much attention to exit fees when we're choosing a home loan. Home loans are usually structured over 20 or 25 years and the focus is on upfront costs, such as establishment fees and interest rates.

But Cannex says the average mortgage now lasts for less than five years and unexpected exit costs can substantially boost the true costs of these loans.

Cannex examined 399 standard and basic variable rate loans. It looked at the costs of getting out of a $250,000, 25-year loan after three years.

To be fair, 28 per cent or 113 of these loans had no exit fees, though they did have a slightly higher average advertised interest rate. About 35 per cent of the loans had exit penalties to up to $1000, and 13 loans had exit penalties of more than $4000 with some as high as $6715.

Cannex also looked at the net cost of borrowing on six home loans it has given a five-star rating. These loans are not duds by a long shot, but they can deliver dud results if you don't use them as intended.

Of these, the loan with the lowest exit fees was Arab Bank's Basic Home Loan. It has an exit fee of 0.75 per cent of the loan balance if you exit the loan during the first year. The other loans had different fee structures, ranging from flat dollar amounts to several months' repayments.

After three years, Cannex found, the biggest exit fee would be paid on the AIMS Super Rate variable home loan - $5036 on that $250,000 loan. There would be no exit fee on Arab Bank's loan and the next cheapest was a $700 exit fee payable on ANZ's Money Saver Loan. AIMS also has the highest establishment fee - $1430 compared to $100-$600 for the other five products.

So why would anyone consider the AIMS loan? Simple - its interest rate was a low 6.44 per cent compared with more than 7 per cent (and up to 7.37 per cent) for the other five. If you truly intended to keep the loan for 25 years, AIMS would deliver the best result.

As it was, Cannex calculated the AIMS loan would cost a total $68,907 if you only kept it for three years, including all fees. The next loan cost more than $1500 less and Virgin Money's standard variable rate loan - with an interest rate of 7.34 per cent - had a net cost of $65,423, thanks largely to a low upfront fee of $310 and a lower exit fee of $500.

After five years, the exit fees on all six loans had disappeared and that low rate on the AIMS loan had really paid off. Cannex found that if the loan was discharged after five years, the AIMS loan was by far the cheapest of the six, even after paying that hefty upfront fee. It would have cost a net $102,479. The next cheapest loan after five years cost $108,285, almost $6000 more, and the Virgin Money and Arab Bank loans cost a net $109,602 and $110,622 respectively.

Cannex says borrowers need to choose home loans that suit their expected usage, rather than just going for the cheapest interest rate. It says the comparison rate (a compulsory disclosure that shows the annual cost of the loan including fees) also needs to include exit penalties so borrowers understand the consequences of paying the loan out early.

But the real question is why exit fees should apply to variable rate loans at all. Unlike fixed-rate loans, when a variable loan is paid out early, the lender should be able to re-lend the money to a new borrower at the same rate - its only costs are in discharging the loan.

The fact that exit fees have boomed since the comparison rate's introduction made other fees more obvious, suggests these fees are more about hiding or blurring potential costs than legitimate cost recovery.

© 2007 Sydney Morning Herald

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