What is a comparison rate?
The basics
A comparison rate is a tool designed to help borrowers understand the true cost of a loan. It combines the interest rate with most of the fees and charges associated with the loan, providing a single percentage figure that reflects the overall cost. This makes it easier for clients to compare different loan products.
Key components
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- Interest rate: The nominal interest rate applied to the loan.
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- Fees and charges: Includes most upfront and ongoing fees, such as establishment fees, monthly or annual service fees, and discharge fees.
Why it matters
The comparison rate gives clients a clearer picture of the loan’s cost, beyond just the advertised interest rate. It helps them avoid being misled by low “headline” interest rates that may come with high fees and charges.
How to explain comparison rates to your clients
Start with the basics
Begin by defining what a comparison rate is in simple terms. Explain that it’s a figure designed to represent the true cost of a loan by combining the interest rate with most of the associated fees and charges. Use analogies if needed, such as comparing it to the total price of a car, including insurance and maintenance, rather than just the sticker price.
Use real-life examples
Lenders are legally required to clearly display how the loan term is calculated, however it is helpful to illustrate the concept with real-life examples. For instance, compare different home loans with this hypothetical scenario: one with a lower interest rate but higher fees, and another with a higher interest rate but lower fees. Show how the comparison rate helps identify the more cost-effective option.
Break down the components
Detail the components that make up the comparison rate:
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- Interest rate: Explain that this is the basic cost of borrowing money.
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- Fees and charges: Discuss how these can add to the overall cost of the loan and why they must be considered alongside the interest rate.
Highlight the benefits
Emphasise the benefits of using comparison rates:
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- Transparency: Clients can see the true cost of the loan.
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- Ease of comparison: Simplifies the process of comparing different loan products.
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- Informed decisions: Helps clients choose the most cost-effective loan.
Address common misconceptions
Some clients may have misconceptions about home loan comparison rates. Clarify that:
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- Not all fees are included: Explain that some fees, like early repayment fees or redraw fees, might not be included in the comparison rate.
- Loan features matter: Point out that while comparison rates are useful, clients should also consider loan features that may be beneficial to them.
Get started
Understanding and effectively explaining comparison rates to your clients is essential for helping them make informed mortgage decisions. By breaking down the components, using real-life examples, and addressing common misconceptions, you can ensure your clients appreciate the value of comparison rates. This not only enhances your credibility as a broker but also empowers your clients to choose the best mortgage product for their needs.
Learn more
For further reading on comparison rates and their importance, consider exploring these resources:
Australian Securities and Investments Commission (ASIC) on Comparison Rates
Mortgage and Finance Association of Australia (MFAA) on Loan Comparison
