When you take out a mortgage from the bank, the banker shows you the current monthly mortgage payment as if it will be the payment you make for the entire duration of the mortgage. But what happens when the mortgage is not well-planned and the payment significantly increases, even doubling?A true story: A woman called me and asked if it was possible to get a mortgage of 930,000 shekels with a monthly payment of 3,500 shekels. Usually, I don't answer such questions over the phone because I like to calculate and check before I answer. In this case, the numbers were so extreme that I immediately replied that the requested mortgage could not be done.It's been less than two days and I received the mortgage from the bank that the woman took out, and lo and behold, she can repay 3,500 on a mortgage of 930,000.Bank confirmation To make reading easier, I've put the bank's offer here:Although I knew the answer in my heart, I asked the woman if the banker had said anything to her about a repayment in, say, 10 years. The woman said no. I sent her the monthly repayment forecast as I had calculated it:The graph above is based on a conservative forecast of the index within the range of 1% to 3% only. A higher index will result in even higher monthly payments, since a 100% loan is a variable-rate loan. As the index rises, so does the prime rate. You can read about the impact of the index on mortgage payments Here.The graph shows that the loan will indeed start with a repayment of about 3,500 shekels, as the banker promised. However, after about a decade, the loan repayment will reach 4,500 shekels, and eventually, the family will have to deal with a monthly repayment of about 6,000 shekels, significantly higher than the 3,500 shekels the client defined as their upper limit.At this stage, several things can happen to the family:They are able to pay the higher repayment and therefore seemingly everything is fine, but hundreds of thousands of shekels were paid to the bank for nothing, compared to a situation where they would have initially chosen a higher monthly repayment.They will realize in time that they bought an apartment beyond their means and will sell it.The family will crash. Buying an apartment is a kind of milestone in a family's life. However, about a third of families in Israel break up over the years. I believe that in the secular Jewish sector, the percentages are much higher. Many studies have shown that financial pressure is a major factor in divorce, so when the mortgage repayment jumps so significantly, the family collapses. Parenthetically, I will say thatThe average repayment for the loan the woman requested will be approximately 4,700 shekels, according to my calculations. We saw that the family will reach this repayment level around the first third of the loan, meaning after about ten years out of thirty.If the family can repay 4,700 shekels, then it is possible to build a more stable loan which will not only keep the monthly repayment at approximately 4,700 shekels but also save the family about (hold on tight) 400,000 shekels In terms of total payments to the bank.When I show this example to clients, I usually get two responses:The bank is really misleading people.To be more gentle, it's like a used car dealer selling you a car without explicitly stating that it has over 100,000 kilometers on it. If you look at the odometer, you can see it easily, but it's not explicitly told to you. Is this misleading? A scam? I don't know. It's common in commerce for the buyer to beware. Meaning, the buyer must check the product they are purchasing. As long as no forgery or intentional deception has occurred, it's the buyer's problem. It's the same with a mortgage. The bank never stated that the repayment would not increase. They just didn't say anything about future repayment.The bank does not provide loan officers with a mortgage calculator that allows for future repayment projections. This would harm mortgage sales, after all. It is the client's responsibility to learn how to perform future estimations or consult with someone who is supposed to represent their side of the transaction to perform this calculation.When you actually sign the mortgage, one of the dozens of pages you will sign is a declaration that the banker explained to you that the repayment will actually increase. The fact that you were not explained that the repayment can increase from 3,500 to 6,000 (and more) is, as mentioned, because the banker does not have this data, has no way to calculate it, and it also does not really interest the bank.This is about the future, you can't know what the index will be in the future.This is, of course, an accurate statement. I cannot know what the CPI or variable interest rate will be in the future. I can make a working estimate. For the purposes of the above calculations, I assumed a CPI that fluctuates cyclically within the ranges of 1%–3%, which are defined by the Bank of Israel as the target ranges for the CPI in Israel. However, anyone who argues that I cannot know what the index will be and therefore a return estimate of 6,000 is not necessarily something that will happen should also consider the possibility of a 5% index and not just 3%. In that case, the return would be over 6,000. There have been far more consecutive years with a 5% index in Israel than with an 1% index or lower:By the way, the bank also knows that the index and interest rates will likely rise in the future. How do I know this? Simply the difference in interest rates between Linked loan and unlinked loan It is roughly the average rate of increase in the index projected by the bank. If a non-index-linked loan is granted at an interest rate of 4.31% and an index-linked loan at 2.81%, then the difference between them is roughly the average index rate projected by the Bank of Israel over the life of the loan. The bank does not share this forecast with its employees or customers.In summaryI'll start by saying that you can Taking out a mortgage after divorce.The borrower is the one who will have to live with the consequences of their mortgage decisions and therefore is the one who bears responsibility. The borrower must ascertain, through reasonable working assumptions, that they will be able to pay the mortgage not only in the first month but also in the tenth year and after 20 years. No banker will pay the mortgage in place of the borrower, and the borrower's future difficulties are not really important to the bank. In the worst-case scenario, they will sell the apartment and get their money back. In many cases, the apartment will be sold not because of non-payment of the mortgage, but because the stress will break down the family, and the apartment will be sold as part of a divorce proceeding, for which, according to many studies, financial stress is a significant catalyst for family problems. As borrowers, you have a responsibility. Don't lie to yourself about the mortgage.Don't know how to forecast future returns? Hire a professional to do it for you Even before signing the apartment purchase contract, or even before searching for an apartment, so you know what budget to search within. Make sure to check under what working assumptions for the index and interest rate changes your advisor made their forecasts.
Thank you very much for reading, Boaz. If you know people who, before buying an apartment, I recommend referring them to this article.Reply
Thank you very, very much, Roy. And as I wrote to Boaz, I invite you to be a partner in the vision of bridging the knowledge gap between the banking corporation and The client, by distributing this article to people before they buy an apartment. With many successes, PomegranateReply
I agree with the idea, but we need to consider the *real* repayment of the loan, not just the nominal repayment that exceeds the index, because it can be assumed that there is a positive correlation between salaries and the increase in the index. If the alternative for this family is to rent for life and not invest money in anything, then it's probably not that beneficial either, right?Anyway, useful article, thanks! (:Reply
Hello Michael, Thank you very much for reading. There is a positive correlation between salary and the index in economics textbooks, but unfortunately, not in reality. The last cost-of-living increase granted in the country due to the index was in 2003. It was also determined that a cost-of-living adjustment would be paid if the index exceeds 8% in a given year. I don't even want to think about a mortgage with an 8% index.In practice, the situation is the opposite: At the macro level, product prices are rising more than wages, or in other words, the index is rising more than the average wage. And even without the rise in mortgage repayments, the pressure on the family would have increased.At the micro level, if people buy an apartment at age 35, for example. Then in many professions, they are at the peak of their income and there is a chance that the salary The nose will fall off in the future.Reply
Thank you for responding to the comment, I'm not familiar with the topic of cost-of-living adjustments, but don't average wages, median wages, and minimum wages rise significantly over the years? In particular, in years when the index was high and not around zero like in recent years? Subjectively, it always seems to us that prices are rising more than our salaries, but is it objectively true that our purchasing power is eroding over the years and that our standard of living is only decreasing?Regarding the example you provided at the micro level – in that case, I agree!Reply
It's completely unreasonable for the frame to remain in place for 30 years and not for 10 years. And therefore the refund will be higher than what you presentedReply
Hello Shimon, Thank you for your comment. Indeed, the framework will most likely not remain the same for 30 years. Please note that in the prime rate path in the data table above, an initial return of 904 shekels is set, and a return A maximum of 1,108 shekels. This reflects cyclical changes in the prime rate from approximately 1.6% to 3.51%. Of course, bigger changes will really make the family's situation even worse. Greetings, PomegranateReply
You are assuming that the average home price will remain the same for 30 years, plus or minus. Why? Assuming interest rates will rise and inflation will rise So we'll likely see an upward trend for the prime as well, not just fluctuations around the same average. right?Reply
The waves in my model are not around the current value. The current value is 1.6%, which is the lower threshold of the "wave" in the model.Beyond that, it's clear that if the frame rises more, then the conclusion arising from the article It would be even more tragic for the family.Reply
Pomegranate In Prime, you can expect an increase of up to 11% in your monthly payment For the other routes, you can expect a return of up to 32% Why in Prime do you expect the return to increase by only about a third compared to the other tracks?Greetings
I haven't checked your calculations, but anyway, the route will be exposed to both index changes and interest rate changes and will be more expensive From a non-adjacent path.
The prime interest rate is not theoretically linked. But practically, it is directly affected by the rise in the index and interest rates. Even if not 1:1Greetings