Comparing apples with oranges doesn’t make sense. To make finding the right loan easier, and to make advertised rates as transparent as possible, there are comparison rates.
Because a comparison rate includes all the fees and charges that can be applied to a home loan, it helps to show customers what the true cost of a loan is. In some instances, lenders offering the lowest rate may not actually boast the cheapest loan, which is what a comparison rate shows.
You’re looking for the best mortgage deal and you see an advertisement. It shouts ‘3.8% INTEREST!’ and, underneath that seemingly too-good-to-be-true rate, ‘7.9% comparison rate’. What does this mean?
Lenders are required to publish a comparison rate to protect consumers and prevent them being misled when it comes to home loan interest rates. A comparison rate 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, which 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 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 somewhere on the advertisement, there will be a statement along the lines of ‘Comparison rate calculated on a loan of $150,000 for a term of 25 years, with monthly repayments’. If your loan is going to be for $900,000, the comparison rate for your loan will be vastly different.
In order to get an idea of the comparison rate that applies to a loan, it is a good idea for borrowers to work with a broker to look at the comparison rate for the amount and term closest to the amount and term of their loan.