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When you apply for a home loan, the bank will consider the property as security for the loan but will also look at your risk rating. In some cases, the bank will require someone to sign surety, especially in the case of a 100% mortgage. This is where pension-backed lending can become an important financial tool.
Standard Bank head of personal lending Heetal Govindjee describes a pension-backed loan as:
It is important to note that this is not the same as drawing down on your pension fund. You still have the full loan to repay, and your pension fund remains intact. Only if you default would the bank have a claim against your pension fund.
READ: Personal Finance | Answers to your burning questions on the two-pot retirement system
Govindjee warns that considering a pension-backed loan is a significant financial decision, so it is important to carefully evaluate various factors before taking up this type of home finance.
Here are some of the critical considerations:
. Collateralisation: In a pension-backed loan, the pension fund serves as collateral for the mortgage. This means that the borrower’s retirement savings are used to secure the loan. An agreement must be in place between the bank, the pension fund and your employer before you can apply.
. Loan amount and eligibility: The loan amount you qualify for depends on how much you have saved in your retirement fund. The allowed maximum benefit as per the fund rules and your ability to repay your loan is guided by the National Credit Act. Lenders may also consider the borrower’s employment stability and the likelihood of continued contributions to the pension fund when approving such loans.
. Interest rates: Normally, when applying for a home loan, rates are based on a client’s credit risk profile. In the case of a pension-backed loan, favourable interest rates and fees are negotiated at a pension fund level, meaning that all members of that fund will enjoy the same rate. For some employees, that could mean a better interest rate and lower fees. However, the instalment is usually fixed to assist the employer in managing their payroll deductions.
. Repayment structure: Repayment terms may vary, but, typically, repayments are structured to align with the borrower’s employment and retirement timeline. Should you change jobs, the home loan would have to be repaid. You could arrange with your new employer to continue with the payroll deduction of the loan and your new fund to stand surety for the loan.
Alternatively, you could request your fund to settle the loan in full, from your withdrawal benefit, on your termination of your membership. This would affect your future retirement funding.
