What you should consider before closing a Bausparvertrag

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Stephan Raczak

Nov 29, 2018
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We would sound a note of caution with these types of loans as they tend to come with a number of hidden fees (and risks) which are both non-transparent and extraordinarily high.

A Bausparvertrag is a  type of loan that is still quite popular in Germany and are promoted strongly by banks and building societies (Bausparkassen). However, we would sound a note of caution with these types of loans as they tend to come with a number of hidden fees (and risks) which are both non-transparent and high. So it is easy to hide the true cost of the product and pretend it is beneficial.

What exactly is a saving contract (Bausparvertrag)?

A Bausparvertrag (BSV) is a savings contract that is linked to a mortgage. It comes in two forms.

  1. In the first and most common form, the savings contract precedes the mortgage. Once you have saved enough you may become eligible for a mortgage loan at a preset interest rate.

  2. In the second form, instead of repaying the mortgage you pay into a savings programme. The savings will then be used at a later stage to pay off the mortgage.

Use case #1: Saving up to finance the purchase or construction of a property in the future

Bausparkassen market their product as giving you certainty about your mortgage interest rate in the future. While this assertion or claim is true and indeed a benefi of this product, there are a number of drawbacks that are usually little talked about:

  • There is an upfront fee when closing a saving contract. This fee is usually 1% of the agreed saving loan amount, but can be higher. For example, with a saving amount of € 400.000 there would be a closing fee of € 4.000. This fee makes it harder to calculate the total cost of a saving contract and the ensuing mortgage.  So you really need to do the homework to understand the cost. It should also be noted that the fee is non-refundable in case you decide not to make use of the saving contract loan or stop paying into your savings contract.

  • The biggest drawback is that you need to know ahead of time when you will buy the house. Only after you have reached a minimum savings are you eligible for a mortgage loan. In other words, you need to know if you want to buy a house in say 6 or 8 years from now. With rapid house price changes this is a tall order. While you still can use your BSV as downpayment, it may require costly adjustments. 

  • In addition, at the time of closing the saving contract, you already have to decide on the future price (and size) of the house you want. This is very hard to do as future prices are difficult to predict. You might be able to afford a larger house due to your income growing over the years. This might compel you to spend more than you had initially signed up for with your saving contract. This means your savings contract will fall short and you may have to choose for two mortgages--one with the savings contract, and one additional, which does not help to get the best deal. The BSV bank of course like this, as they can offer you a single mortgage, rolling the BSV into this mortgage, but other banks cannot do this.

While this may get complicated, you also need to bear in mind the following:

  • Allocation depends on the upfront saving amount that has been saved up, usually 30-50% of the loan amount. This allocation of the saving loan in the future is not guaranteed as this will depend on how many other customers have paid into the building society (building societies are legally not allowed to ensure allocation).

  • If a savings contract is eventually allocated, the person’s credit and income situation is checked again. Just like with the first mortgage, a building society will check your employment and residence situation again and have your property re-appraised. A former employee who once had no problem qualifying for a mortgage may have become self-employed at the time of allocation. A person who has been self-employed for less than 3 tax years or no longer works in Germany will run into difficulties with the refinancing of the loan balance.

With that said, a saving contract can give you access to some extra subsidies. Such subsidies are usually reserved for low-income individuals and households. If you fall into this category a saving contract could make sense, but in any case it would need to be calculated carefully. Also, for the use case where you own a piece of land and merely need to save up for the construction costs of a new building (which tend to be more predictable) a saving contract could make sense.

The amounts in subsidies paid are modest: If the taxable income does not exceed 17900 € (or 35800 € including the partner), an annual worker benefit savings (ANSpZ) of up to  € 42.30 (€ 84.60) is paid. In addition an annual housing premium can be paid to those who have a taxable annual income up to a maximum of € 25600 (married couples double). It amounts to a the maximum annual premium is € 45.06 or € 90.11. The taxable income is reduced by € 7356 per child.

Use case #2: Financing the immediate purchase with a saving contract

The second use case for a saving contract applies to financing the immediate purchase of an existing or new-built property. In addition to an annuity mortgage with zero repayment, you conclude a BSV in the same amount. Instead of repaying each month the mortgage, the repayment portion of the monthly rate is used in the first phase towards reaching the savings goal required by the savings contract (30-50%). Once that goal is reached and BSV is eligible for pay-out it is used to pay-off the annuity mortgage. In the second phase the BSV is repaid of a previously agreed interest rate, till it the loan is fully repaid

In other words: you can fix the interest on your mortgage till it is fully paid off, but it comes with a number of disadvantages compared to the most widely used annuity mortgage:

  • It adds unnecessary complexity and complexity costs money. The bank needs to recoup this money which makes saving contracts almost by definition more costly. The complexity allows the bank to create a smokes screen and legally they are not obligated to show the effective cost of their product. At Hypofriend we devised a method to compare the cost of this product to a normal annuity. This involves very complex calculations, and is rarely done: no easily available calculators are available on line. WE see examples of reasonable rates, but also very costly effective rates.

  • It is not fully guaranteed that the savings contract will be allocated to cover the remaining loan balance after the end of your fixed interest period (e.g. 10-year fixed interest period).

  • You most likely don't want to fix your interest for the full period. Your income grows, and hence most people pay-off their mortgage quicker then envisaged. Which means you end up paying a high rate for insurance you dont use. Also frequently people will want to move to a larger house or a different town or country. Locking yourself in for 30 years is a very long time !

Why a savings contract is especially unsuitable for expats living in Germany?

  • In general, expats tend to have higher net incomes, and that makes them ineligible for receiving subsidies. It also means they are more likely to pay-off their mortgages early and benefit less form locking in fixed rates for very long periods.

  • Expats tend to live in German cities with sharply rising prices. Waiting for a savings contract to pay-out usually does not make sense. They also live in Germany for shorter periods and thus the uncertainty regarding the pay-out of the BSV  also makes little sense and so do the high initial closing cost that have to earn themselves back over a shorter period.

  • The complexity of savings contracts puts expats at a particular disadvantage.  The terms & conditions of savings contracts are non-transparent and have small print clauses that are hard to understand – even in German. Most importantly, very few brokers are transparent about the actual cost and drawbacks of the product as it requires complex calculations that are not easily available.

  • There is an extremely low interest rate paid on the saved amount during the saving period, i.e. 0.1-0.25%. If you decide to move early you would have been far better off reapying your mortgage as this has a much higher implicit saving rate (1-2%).

Here is how Hypofriend can help you

  • If you have received an offer with a savings contract and you are not sure about the details, Hypofriend can help you evaluate your offer and show you the effective interest cost of that offer.

  • If you already have been saving into an existing savings contract, Hypofriend can help you use that existing contract as a downpayment for a new property purchase.

  • We can use the BSV intelligently: e.g. if you want to increase your payments over time or create partial certainty about interest rates for a longer horizon. 

  • Most importantly, Hypofriend can help you find the right German mortgage product that takes into consideration the optimal fixed interest period, downpayment and repayment schedule given your financial situation.

Additional Resources:

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Stephan Raczak

Stephan is one of Hypofriend’s Mortgage Experts.

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