The mechanism of interest

How is the interest on your building loan calculated?

Small number, big influence
The core of a construction loan is the interest rate, which determines the costs for the customer and the return for the bank. Behind this lies an individual value that is influenced by various factors.

The capital market
In principle, banks are adjusting their interest rates to the current conditions on the capital market. While short-term market interest rates follow the key interest rate of the European Central Bank (ECB), as with overnight money, construction interest rates are not directly or exclusively influenced by this. Rather, the BAuzins are based on the development of short-term securities such as bonds and mortgage bonds. The higher the demand for these securities, the lower the building rate. Due to the strong international demand for safe investments, yields on long-term Bunds and mortgage bonds are currently still low – and consequently so are construction interest rates.

Interest rate and monetary policy decisions by central banks can also indirectly affect the behaviour of major international investors, which controls the demand for real estate loans and in turn drives interest rates. However, interest rates for building loans can also move in the opposite direction to the general interest rate trend. One example: In summer 2013, real estate loans became more expensive after the key interest rate was lowered. The reason was developments in the USA. Investors feared that the Federal Reserve Bank would end its loose monetary policy and invested only hesitantly. As a result, the demand for bonds in our nations also declined.

Personal factors
The bank makes an individual interest offer for each customer. This is because each customer involves a different level of repayment risk for the Bank, into which various factors play a role.

Type of employment: Employees, freelancers, pensioners and civil servants bring with them sometimes low and sometimes very high securities for their income. For this reason, some banks generally charge interest surcharges for certain occupational groups or impose requirements on the amount of equity capital.

Postcode: The future or current place of residence influences the resale possibilities for a property and thus the possible interest rate. At the same time, the place of residence has an impact on the breadth of the product range. For example, many regional banks only offer financing in certain postcode areas.

Use and condition of the property: Should the property be used as a capital investment or should it be lived in itself? For capital investors there are sometimes special requirements regarding income or maximum loan amount. Important for every buyer: In what condition and location is the property.

Creditworthiness of the customer: The bank checks the income situation including rental income, capital gains or pensions. The customer’s expenses are deducted from this. The more that is left at the end of the month, the better this is usually for the interest. It also plays a role how many years you have already been employed by your employer or whether the contract is limited in time.

Details of the financing
Various set screws make construction financing more lucrative for banks than others, which they pass on to customers through better interest rates.

Loan amount: Some banks only offer loans above certain minimum sums and let you pay for it with interest surcharges if the loan falls below predetermined sums. There are often discounts for larger loans.

Equity ratio: The more own money is brought in, the better the interest rate is usually. Conversely, if the loan amounts to 70% of the purchase price, the interest surcharges can be around 0.1 percentage points, for 80-100% 0.2 to 0.8 percentage points, and for 100% also 1.00 percentage points and more. These estimates are valid for the D-A-CH region and are not final, but are mere assumptions based on snapshots; the figures may vary considerably for known reasons.

Fixed interest rates: Because the development of interest rates is difficult to estimate at the moment, interest rates are higher for longer fixed interest periods. The interest rate for ten-year interest rate fixations is about 0.3 – 0.5 percentage points higher than for a five-year fixation. For a 20-year fixed interest rate, the premium is about 0.8 – 1.00 percentage points higher than for a 10-year term.

Repayment amount: If you repay at a high rate, you often get better conditions – especially if you choose the full repayment variant, where the loan is paid off in full at the end of the fixed interest period. The interest advantage over a ten-year term compared to a two-percent initial repayment can be around 0.1 to 0.2 percentage points.

Special options: Special options usually cost extra, and this applies not only to cars but also to construction financing. Some banks charge small surcharges for changes in repayment rates and special repayments, while others offer both free of charge. The same applies to periods without provision interest and forward loans.

A tip
Get several offers and compare the respective interest rate. It pays off to be petty. With a ten-year fixed interest rate, for example, even the slightest percentage difference can amount to several hundred or even thousands of CHF – depending on the amount of the loan, of course.