Residential property. Financing and protection/

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1 Residential property Financing and protection/

2 Contents Editorial 3 The principles of home financing Making dreams affordable 4 Solid affordability strengthens your negotiating position 6 Challenges in financial consultations 7 Raising the deposit Deposit as the foundation of financing 8 Advance withdrawal under WEF: Restrictions and conditions 9 Making the most of your deposit 11 Mortgages Choosing the right mortgage 12 Direct or indirect repayment 14 Mortgages from AXA 15 Protection Keeping your home even in the face of disaster 16 Affordability when faced with disability or death 18 Ensuring affordability 19 Budget planning Budgeting as a homeowner 20 Insurance All aspects of insurance for homeowners 22 2

3 Foreword/ Dear reader You dreamed about it for ages, studied countless offers over months and pored over plans for many long evenings before being able to finally spend the first night in your own four walls. What a great experience it is, after all the effort and excitement, to move into your new home, where everything is just the way you ve always wanted it to be. But there may also be cause for concern: How long will the euphoria last? Is the property adequately secure in the long run? What will happen if income declines due to a new job, children come into the picture, interest rates suddenly jump, or the family suffers a serious stroke of fate? Anyone who buys a house or condominium property would be well advised to address questions such as these already at an early stage. AXA is committed to accompanying its clients in all life situations and will always be there for you when you grapple with questions such as these. This brochure contains valuable information and advice on the topic of residential property, such as budgeting and financing, long-term protection and the effect on retirement provisions, as well as an overview of the construction and buildings coverage you will need. When it comes to living, saving or planning ahead, it is essential to understand your individual situation thoroughly. The specialists at AXA look forward to advising you individually and working with you to find the best possible solution so that you can permanently enjoy your own home, free of worries. Antimo Perretta CEO of AXA Winterthur 3

4 Making dreams affordable/ The number of home owners has risen sharply in recent years. The combination of rising rents and low mortgage interest rates makes this a particularly attractive time to buy a home. In order for the pleasure of homeownership to remain a pleasure over the years, the financial burden must be tolerable over the long term. The American real estate debacle, often referred to as the subprime crisis, shows the devastating consequences when mortgage loans are handed out without the necessary safeguards. However, behind the big economic picture is the suffering of individual homeowners who have often had to sell their home well below value and who may have consequently lost all their savings. In order to avoid scenarios of this kind, mortgage lenders must assess whether applicants can afford to repay a loan. The basis of this affordability calculation is essentially the same across all financial institutions, whether banks or insurance companies. Assessing whether or not a financial commitment is sustainable means using criteria that reflect not only the current situation but also the values that can be expected in the long term. The maximum mortgage remains the same, regardless of whether interest rates happen to be high or low. How much can you afford to pay for your own home? When looking for a property, you should know how much you can afford to repay before you approach the financial institution. This will help you to avoid disappointment and is relatively easy to do. The affordability calculation is based on two rules. The 20/80 rule The 20/80 rule says that at least 20 % of the property s value must be financed out of your own pocket. In principle, the property s value is made up of the purchase price plus the cost of construction, remodeling or renovation. If the lender has the property surveyed and the amount turns out to be lower, then this lower value will apply. The difference between the sale price and the amount that the bank is willing to provide will then need to be financed entirely out of the buyer s own assets. Ten percent of the property s value must paid for with real assets, which means you will not be permitted to use Pillar 2 assets. You can, however, withdraw your pension fund assets in advance for the remainder of the deposit. The remaining 80 % is financed using borrowed capital. The higher the deposit, the lower the interest burden. Housing costs may not exceed 33 % of income The 1 3 rule is the second criterion. It ensures that you can bear the burden of financing the purchase. The running costs for your new home may not exceed one third of your gross annual income. These costs include mortgage interest, capital repayments and ancillary costs. When calculating the interest and repayments, it should be noted that loans are usually split into a first and a second mortgage. The first mortgage normally covers 66.6 % of the property s value. The second mortgage secures the rest of the borrowed capital and must be repaid within 15 years or, at the latest, when you reach the age of 60. The interest rates used for the affordability calculation vary from provider to provider. On average, the interest rate is 5 % for the first mortgage and 5.5% for the second mortgage. 4

5 Ancillary costs are often underestimated Ancillary costs amount to 1 % of the property s value. While this may seem like a lot at first, the amount is fully realistic. Ancillary costs include not only expenses such as energy and fees but also buildings insurance premiums, maintenance work, and amounts reserved for renovations and replacing defective equipment. In the case of older properties, you can assume that this amount will exceed one percent a year. Classic financing for residential property First mortgage, maximum 66.6 % Second mortgage, maximum 13.4 % Deposit, generally 20 % Special rules for the affordability calculation Variable income (bonuses, commission) Many financial institutions recognize at least part of any bonus or commission as income, in which case they will take an average figure from recent years. On the other hand, regular secure income, child allowances and alimony payments are recognized in full. Double incomes If a single income proves insufficient to meet the affordability criteria, part of the second income may be factored in, or the repayment amount may be increased. Self-employed persons In the case of self-employed persons, the average income over the previous three years is generally used as the basis. Extraordinary obligations Fixed obligations, such as leasing payments, personal loan payments, alimony payments and costs for vacation homes, are deducted from income for the purposes of the calculation. Older buyers of residential property In the case of clients who are approaching retirement age, the calculation is based on retirement income from AHV and Pillar 2 pensions rather than on their current earned income. In addition, financing covers only 65 % of the property s value instead of the usual 80 %. The amount above this portion is subject to additional guarantees or a shorter repayment period. 5

6 Solid affordability strengthens your negotiating position/ The individual affordability calculation that enables you to quantify your financial options accurately is based on tried and tested rules. The more comfortably you meet the affordability criteria, the easier it will be for you to obtain a loan. This also means you will have a strong position when it comes to negotiating terms with the lender. In the converse case, the precise opposite applies. If you barely meet the affordability requirements, additional terms (e. g. having to repay the second mortgage more quickly) will be imposed. If you do not meet any of the criteria, you will either have to provide a larger deposit or look for a more affordable property. Sample affordability calculations Value of property 400, , ,000 1,000,000 1,200,000 Financing Deposit 20 % 80, , , , ,000 First mortgage % 266, , , , ,000 Second mortgage % 53,333 80, , , ,000 Total costs Interest on first mortgage 5.0 %* 13,333 20,000 26,667 33,333 40,000 Interest on second mortgage 5.5 %* 2,933 4,400 5,867 7,333 8,800 Repayment of second mortgage (15 years) Ancillary costs, 1 % of the property s value 3,556 5,333 7,111 8,889 10,667 4,000 6,000 8,000 10,000 12,000 Total annual costs 23,822 35,733 47,645, 59,555 71,467 Total monthly costs 1,985 2,978 3,970 4,963 5,956 Affordability Required gross income 71, , , , ,422 *Affordability is calculated using interest rates that reflect expected long-term average trends. 6

7 Challenges in financial consultations/ You should never take low interest rates for granted! Alan Ryser has been a sales manager at AXA s general agency of Pensions and Assets in Lausanne since Low interest, a sound economic environment, a booming real estate market: ideal conditions for buying real estate! Alan Ryser: Demand for real estate is very strong at the moment. Paradoxically, this is one of the things that creates problems when I advise clients. They often come here expecting to be able to take out a mortgage easily and at a low rate. But the criteria now are the same as when interest rates are high. And this occasionally leads to disappointment. Furthermore, there are a lot of overpriced properties on the market at present. In these cases the financial institution won t finance the full asking price and will only consider the lower estimate from the survey. Clients must therefore come up with a deposit that is higher than they had expected. How do clients react when they realize they won t get the financing they were hoping for? They usually understand what has happened when they realize that the affordability criteria are there to protect them. Often clients figure out a way to come up with a higher deposit, so that they can buy the property they really want. On the other hand, we do sense frustration among those who realize they won t be able to fulfill the dream of owning their own house. Often they will try to obtain finance from a different financial institution, but they will have much the same experience wherever they go. The affordability calculation uses relatively high benchmarks. Why is it then that real estate often has to be sold quickly, or even in a forced auction? One has to keep in mind that the affordability calculation relates to a specific moment in time. Unfortunate events such as unemployment, divorce, disability or death may create a situation where individuals can no longer afford to remain in their home. In the case of individuals who have only modest retirement benefits, retirement can also mean that they are no longer able to bear the financial burden. I therefore urge my clients to build up reserves and to take out insurance against potential risks. Low interest rates help reduce the living costs of owners considerably. What do you recommend that they do with these savings? Interest rates have an enormous impact on what an owner can afford to spend on other things. But the same applies in the case of high interest rates. For this reason it is important to build up reserves regularly during the good years, as a way of creating a cushion for when interest rates rise again. You should never take low interest rates for granted! People who spend their excess income and modify their lifestyle accordingly will have to scale back as soon as interest rates rise again. 7

8 Deposit as the foundation of financing/ Finding the deposit is often the biggest obstacle on the path to buying your own home. But there are other ways of raising the missing funds, besides using your savings. The reason that mortgage lenders insist on a deposit of at least 20 % is that they don t want to lose money. The loan needs to be repaid in full, even if the property has fallen in value and has to be sold. The property owner must realize that his deposit serves primarily to cover the risk of any drop in the property s value. From the owner s perspective, the capital he invests will help reduce the interest burden. You can also think of the deposit as a special form of retirement provision because, as you get older, your housing costs tend to decline and you can get by on less. How do people usually find the deposit? There are several options for coming up with the deposit. The obvious first option is savings from bank accounts or investments. If this is not enough, you can consider surrendering or taking out a loan against a life insurance policy. Young buyers often receive help from their parents in the form of a gift or an advance on their inheritance. And a personal loan is always an option. In this case, however, the mortgage lender must include the relevant interest and repayments in the affordability calculation. But most of the funding usually comes from Pillar 2. Because residential property has some similarities to a retirement pension, the law provides buyers with the possibility of using assets from their Pillar 2 and 3a accounts prior to retirement. Amounts raised in this way must be used to purchase owner-occupied residential property and, additionally, for renovations, remodeling, mortgage repayments, or acquiring shares in cooperatives. Advance withdrawal: residential property as retirement provision Assets that are withdrawn in advance from a pension fund are used directly for the deposit. In other words, the person s retirement is now secured not only by the pension fund but also by his or her own home. The minimum amount of the advance withdrawal is CHF 20,000. This limit does not, however, apply to purchases of shares in housing cooperatives or to vested benefits policies or accounts. Up to the age of 50, an individual can withdraw all of his or her pension fund assets. People over the age of 50 can withdraw the amount that was in their account when they were 50, or half of their current assets, whichever is greater. Advance withdrawals are possible up to three years before regular retirement and every five years at the most. To prevent abuse of the purpose of the pension, the pension fund ensures that a sales restriction is entered in the land register. If the conditions for an advance withdrawal are no longer met (e. g. if the property is sold) the amount that was withdrawn must be paid back to the occupational benefits institution. Consequences of advance withdrawal The deposit from an advance withdrawal can help reduce the mortgage loan. This will also help lessen the burden of interest and repayments. This advantage, however, has a substantial downside. The advance withdrawal of pension fund assets will reduce the individual s retirement pension and, depending on the pension fund, may also result in reduced disability or death benefits. The reduction in risk coverage should be made good in all cases by taking out private insurance. By repaying the advance withdrawal at a later date you can fully restore your retirement provision. Additional saving within the Pillar 3 framework is necessary if you want to be sure that you can afford to own your own home in your old age. 8

9 Advance withdrawal under WEF: restrictions and conditions/ Under the promotion of homeownership (WEF) scheme there are two ways to access the assets in your Pillar 2 account: advance withdrawal, or pledge. Both options come with risks and advantages. Minimum amount Minimum amount of advance withdrawal: CHF 20,000 No minimum amount for purchasing shares in building cooperatives or for vested benefits policies or accounts. Example: Reduction of pension benefits after a WEF advance withdrawal Maximum amount Maximum vested benefits amount. From age 50 onward, the maximum in vested benefits at age 50 or half the vested benefits currently available, whichever is greater. Without the withdrawal With the withdrawal BVG retirement benefits on regular retirement (age 65) Retirement capital CHF 390,000 CHF 290,000 Retirement pension CHF 26,500 CHF 19,700 BVG benefits on disability Disability pension CHF 20,000 CHF 16,000 Disabled person s child s pension CHF 4,000 CHF 3,200 CHF 24,000 CHF 19,200 BVG benefits on death Partner s pension CHF 12,000 CHF 9,600 Orphan s pension CHF 4,000 CHF 3,200 CHF 16,000 CHF 12,800 Restrictions Advance withdrawal: at the most every five years, and no later than three years before regular retirement. Amounts from additional benefits purchases may not be withdrawn for three years. Conditions Processing may take up to six months Pension funds often charge a fee In the case of married couples, the spouse must provide written consent When the property is sold, the withdrawn capital must be paid back to the pension fund. If the withdrawn amount is not repaid, it is no longer possible to deduct purchases of additional benefits from income tax. Example: male, aged 42, current gross income: CHF 110,000, BVG minimum benefits, WEF withdrawal: CHF 60,000, BVG conversion rate: 6.8 % 9

10 Pledge: retirement pension as security Advance withdrawal is one way of using pension fund assets to fund the purchase of your own home. The other option is a pledge. Here, the retirement capital is used as collateral for the mortgage lender, which means that a larger mortgage can be granted. This option has the advantage in that the capital remains in the pension fund and continues to earn interest. While opting for a pledge offers the very important advantage that there is no reduction in Pillar 2 benefits, it has a downside in the form of higher interest and capital repayments due to higher housing costs. Which is better: advance withdrawal or pledge? In terms of housing costs, an advance withdrawal will be considerably more affordable because the mortgage and the associated interest and repayment amounts will be lower. At the same time, this perspective is incomplete because it fails to factor in the resulting tax burden, which can quickly tip the balance in favor of a pledge. The possibility of deducting debt interest from income tax reduces the differential in housing costs. But the main factor that needs to be considered is the cost incurred to make good the reduction in benefits due to the withdrawal. On the one hand, a regular amount should be set aside to make up for the reduced retirement benefits. On the other hand, insurance premiums will need to be paid in order to provide coverage in the event of disability or death. It s impossible, therefore, to say in general terms which option makes better financial sense. Careful analysis of each case will always be needed. Finally, other factors often determine which way the decision will go. These may include the wish to continue paying into the Pillar 2 account at a favorable tax rate, or the wish to keep the debt on your home as low as possible. Comparison of advance withdrawal / pledge Advance withdrawal: You have more capital at your disposal. This means you ll need a smaller mortgage Thanks to the smaller mortgage, your interest and capital repayments will be reduced. You pay less tax on the capital you withdraw from your pension fund. The capital is not withdrawn all at once (at retirement) or as pension income and therefore attracts lower tax rates (progression). Your retirement benefits from your pension fund, in other words the pension or lump sum, will be less. Your risk coverage in case of disability or death will be reduced, depending on the pension fund. You can enter less mortgage interest as a deduction in your tax return. Pledge: Pension fund benefits remain unchanged. Benefits on disability, old age or death remain the same. Your entire pension fund capital continues to bear interest. You can continue to pay into your pension fund and deduct the amounts from your tax. You can enter the mortgage interest in your tax return and thereby reduce your income tax. The larger mortgage loan will mean higher interest and capital repayments. The financial institution may ask for larger capital repayments. 10

11 Making the most of your deposit/ Many people forget that their deposit has a price! Monika Niederhauser has been advising clients at AXA s general agency of Pensions and Assets in Burgdorf since Does it make sense to pay more than the required 20 % in deposit? Monika Niederhauser: Many people don t have a choice. If they can t afford the payments on an 80 % mortgage, they will have to finance more than 20 % themselves. That s not really such a bad thing. But it s important to make sure that not all liquid assets are tied up in the property. It s essential to have reserves available for conversions, renovations and emergencies. Once the money is invested in the property, it s virtually impossible to access it again. On the other hand, there are many ways of investing your own money later on. Do you generally recommend keeping the deposit deposit low? No, there s really no general answer to this question. It s always necessary to consider all the aspects. For example, people often forget that their deposit also has a price! Using your capital to finance your home means that it s no longer available to generate interest or dividends, which could otherwise easily amount to several thousand francs a year. Taxes also have to be included in the equation, because investing more of your deposit in your home will reduce the mortgage interest, and this means that you only will be able to deduct a reduced amount from your taxes. The same applies in connection with whether a mortgage should be amortized or not. People often use their pension fund capital to finance their home. What do you think about this option? Withdrawing capital from Pillar 2 requires some careful thinking. Doing so will reduce your coverage against the risks of disability and death as well as your retirement assets. The danger of having insufficient risk coverage is considerable and I therefore urge anyone considering such a move to maintain it by taking out risk insurance. Especially for homeowners it is important that they can continue to finance their home if they become disabled. It therefore always makes sense to look into a pledge as an alternative to an advance withdrawal of pension assets. And what about assets withdrawn from Pillar 3? I think that taking money out of your Pillar 3a account is less problematic. And here, too, I tend to prefer a pledge. But there s no hard and fast rule for which is better. It all depends on the tax burden, the person s income, and how the assets are invested. The issues around how to finance residential property are extremely varied and so individual that it always makes sense to get professional advice. 11

12 Choosing the right mortgage/ Private households in Switzerland have piled up close to 600 billion francs in mortgages. The average residential property is subject to a mortgage of almost half a million francs. The choice of mortgage and provider is very important. Hardly anyone has enough money to pay for a property with their own funds, and mortgage loans are therefore the most important element in financing residential property. The many different mortgage options can be broken down into three main categories: fixed-rate mortgages, LIBOR mortgages, and variable-rate mortgages. The choice of model can have far-reaching consequences, which means that this decision should not be taken lightly. Fixed-rate mortgage: guaranteed interest rate for up to 15 years With a fixed-rate mortgage, the loan amount, interest rate and term are agreed when the contract is signed. Depending on the amount in question, you can choose a term of between one and 15 years. The interest rate is not exposed to any fluctuations until the end of the agreed term. The fixed-rate mortgage is ideal for homeowners who want to be able to plan their interest costs over a defined period. Caution when staggering A fixed-rate mortgage provides interest rate certainty during the term, but there is a risk when the loan matures. If the mortgage happens to end when interest rates are high, it will be necessary to take out a new mortgage for the whole amount on less advantageous terms. Borrowers can hedge against this risk by spreading the total amount across several fixed-rate mortgages with different terms. This, however, has the disadvantage of making the borrower heavily dependent on the mortgage provider. Whenever one tranche of the mortgage matures, there is always another that will continue to run. This makes it impossible to switch providers, which can represent a substantial weakness during negotiations about interest rates. LIBOR mortgage: hoping for a fall in interest rates The interest rate for a LIBOR (London Interbank Offered Rate) mortgage consists of a basic rate, which is derived from short-term money market rates, plus a client-specific margin. When the borrower signs the contract, the loan amount, client margin and term (between two and five years) are defined. Throughout the term, individual tranches are agreed with terms of three, six or twelve months. The LIBOR mortgage thereby is linked to short-term interest rates. Tranches that mature can be redefined during the overall term or converted into a long-term fixed-rate mortgage. LIBOR mortgages are especially suitable for homeowners who are looking for flexibility and affordable short-term interest rates, but who would also be able to cope with a rise in rates. Most providers only offer LIBOR mortgages above a predefined threshold. Advantages and disadvantages of staggering fixed-rate mortgages Advantages Disadvantages The choice of the term determines the interest rate. The longer the term the higher the interest rate will be. On the other hand, borrowers can plan the amount in the long term. Especially if affordability is an issue, a longer term makes sense because the borrower won t have to worry about short-term increase in rates. Minimal risk of having to refinance the entire mortgage during a high-interest phase Long-term smoothing of the interest rate fluctuation risk Fixed-interest tranches can be defined in line with the borrower s risk capacity and long-term financial plan Heavy dependence on the lender because it s virtually impossible to switch a portion of a mortgage No flexibility in response to financial changes 12

13 Variable and flexible In the case of adjustable-rate mortgages, the rate is linked to events in the money markets and capital markets and can change accordingly. This means the interest burden will fluctuate during the term. Repayment is possible, provided that the notice period is observed. Besides these main models, the market also provides borrowers with a range of specialized offers. Often these represent combinations of the classic models (combined mortgages) or provide an interest rate bonus in given situations (first time buyer mortgages, eco-mortgages). The most important mortgage models Fixed-rate mortgage LIBOR mortgage: Variable-rate mortgage 5% 4% 3% 2% 1% 0% 0 Term in years 5 5% 4% 3% 2% 1% 0% 0 Term in years 5 5% 4% 3% 2% 1% 0% 0 Term in years 5 Advantage Risk Advantage Risk Advantage Risk The amount in interest due for the whole term can be budgeted right from the beginning. Interest rates can be set for up to 12 months in advance, subject to a corresponding premium. Early termination incurs costs. You benefit from favorable short-term interest rates and stay flexible. It is hard to calculate the exact interest burden because of volatility of the rates. Early termination incurs costs. The term is open-ended; conversion into a fixed-rate mortgage or LIBOR mortgage is possible at any time. It is impossible to calculate the exact interest burden because of the different rates. 13

14 Direct or indirect repayment/ There is no generally valid answer to the question of whether it s better to repay a mortgage directly or indirectly. Besides the borrower s taxable income, the key factors include the current level of interest rates and the borrower s personal circumstances. Repayment of the second mortgage The majority of all mortgage loans does not need to be repaid. Only the second mortgage must be repaid. In order to ensure that the property remains affordable after retirement, the loan must be repaid within 15 years or, at the latest, when the borrower reaches the age of 60. The mortgage can be repaid in two ways. Direct repayment means an agreed amount is paid every year. While direct repayment gradually reduces the mortgage debt and interest amount, it causes the tax burden to increase. Instead of paying off the mortgage with regular amounts, it often makes sense to choose an indirect option whereby the money is invested in a pension plan in order to build up the necessary capital. This endowment insurance policy is then pledged to the mortgage lender. When the contract term ends, the capital is used to repay the second mortgage. The mortgage loan and interest, and thus also the tax deductions, remain constant throughout the term. Furthermore, borrowers will still be able to meet their payments in the event of disability or death, because they are insured. Simple decision-making model There is no generally valid answer to the question of whether it s better to repay a mortgage directly or indirectly. The answer depends on three factors: 1. Tax burden: The higher the tax rate paid by the borrower, the more the mortgage interest reduces the tax burden. This positive effect is greater in the case of indirect repayment plans. 2. Interest burden: Interest burden that is perceived as considerable should be reduced through direct repayments. 3. Inflation: Inflation reduces mortgage debt in real terms. Borrowers who have a large loan and have repaid little of it will benefit more from this effect. Instead of doing detailed comparative calculations, answering the following three questions is often enough to arrive at the best decision. Do you consider the tax burden high? Can you easily afford the mortgage interest? Do you expect inflation to rise? If you answered Yes to all the questions, then indirect repayments are the better solution for you. If you answered No to all the questions, then direct repayments make better sense. In all other cases, in-depth analysis is advisable. Comparative calculation: Direct versus indirect repayment through a Pillar 3a policy Cost comparison taking tax into account A second mortgage of CHF 96,000 is repaid over 15 years. The mortgage interest rate is 2.5 %. The client s marginal tax rate is 25 %. The Pillar 3a policy is a combined life insurance policy that includes a tax-privileged savings component and a lump sum in the event of death (Protect Plan from AXA). The figures reflect a standard offer for a male aged 45 and a scenario with a mid-range bonus forecast. What are the costs of repayment? Direct repayment Indirect repayment Installments or premium payments (CHF 6,400 per year) 96,000 96,000 Mortgage interest 19,200 36,000 Tax savings through deduction of debt interest 4,800 9,000 Tax savings through deduction of Pillar 3a payments 24,000 Amount from policy (amount paid out repayment) 19,725 Tax on lump sum payment (6 %) 7,229 Total net cost of repayment 110,400 86,504 Difference 23,896 Advantages of indirect repayment Cost advantage CHF 23,896 + insurance benefit on death of CHF 96,000 14

15 Mortgages from AXA/ Thanks to our cautious lending policy, we re able to offer attractive conditions. Daniela Hohenhaus has been advising clients at AXA s general agency of Pensions and Assets in Winterthur since Why do insurers offer mortgages? Aren t they classic banking products? Daniela Hohenhaus: Mortgages have been part of our range of investment instruments for decades. As an insurance company, we manage client assets from mandatory occupational benefits insurance and from the individual life business. We are required to invest these assets securely over the long term and with a view to generating attractive returns. Here, the mortgage business offers us attractive investment opportunities, besides real estate and bonds, etc. What are the differences between and insurance solution and a banking solution? AXA refinances itself using the pension assets and premiums of its clients, and therefore uses a cautious credit policy. When it comes to mortgages, AXA only considers property that will be used as the owner s main residence and that will be easy to resell. In addition, the borrower must have an excellent credit rating. In view of these criteria, what are the advantages of choosing a mortgage from AXA? For financing plans that meet these criteria, AXA can offer very attractive terms. In addition, our clients benefit from our expertise as an insurance company. I m thinking here, for example, of tax optimization through indirect mortgage repayment or family protection. What s your advice to first-time buyers? In view of the financial consequences and the complexity of the topic, I recommend that firsttime buyers should seek in-depth advice. The important thing is to ensure that they are fully aware of the consequences of buying their own home. Besides this, it s also helpful to talk about the subject with friends or colleagues. It s also important to take all the advice on board; first-time buyers shouldn t insist on realizing the dream of homeownership at any price. What do I have to do if I want to get the best interest rate? Some clients focus solely on negotiating the best mortgage rate. Here, I can only recommend looking at several offers but, as in so many aspects of life, you have to be careful not to compare apples with pears. Potential borrowers should look carefully at the quotation date, the extent to which it is binding, and the guaranteed payment date. 15

16 Keeping your home even in the face of disaster/ Death, incapacity for work, or reduced income after retirement can put your home at risk. Insuring against these eventualities is one way of protecting yourself. Every homeowner knows the question the financial institution will ask before it grants a mortgage: Will you be able to bear the cost of the property out of your income in the long term? If the loan is approved, it means that the answer to this question was Yes. But that doesn t mean that the issue has been settled once and for all. Even after the purchase has been finalized and the mortgage contract has been signed, home finance depends largely on your personal financial circumstances. If these deteriorate due to unforeseen events (e. g. occupational disability or death) or your income drops following retirement, you may find yourself unable to afford your own home. In this situation the mortgage lender will demand repayment of the mortgage and, in the worst case, the sale of the property. It therefore makes sense to protect yourself against these risks. In fact, many financial institutions make this a requirement of granting a mortgage. Incapacity for work as a threat to affordability Many people underestimate the risk of incapacity for work. It can strike anyone and doesn t only affect those who do hard physical work or make their living in high-risk professions. There are increasing cases where mental conditions or even minor physical ailments can make it impossible for someone to continue their job. Especially in the case of disability due to illness, the available pension, even when combined with the disability insurance (IV) payments, is usually not enough to guarantee current income levels. The affordability calculation (see page 4) shows whether an individual will be able afford to finance his own home on the remaining income. If it turns out that there is a shortfall, this risk should be covered using an occupational disability pension. In the event of occupational disability, this will guarantee payment of interest and capital after a defined waiting period. Can the home be financed without my salary? One partner s death can push the surviving partner into severe financial difficulty because of the loss of an income. These problems may be complicated by inheritance claims which, according to the law, must be brought by the guardian of any children who have not yet come of age. All this will make it questionable whether the residential property can remain affordable. Difficult times, in which individuals are grieving, are made more difficult by worries about whether they can stay in their own home. These worries can be alleviated, at least in part, through term life insurance. This kind of insurance is relatively cheap and pays out a predefined amount in the event of death. This money can then be used to reduce the mortgage debt to a level at which the burden of interest and capital repayments becomes manageable, even with reduced income. 16

17 Old age Pensions from Old-Age and Survivors Insurance (AHV) and occupational pension funds cannot provide individuals with the same level of income as they had before retirement. An individual s ability to finance his or her own home may be at risk in this case too, unless sufficient reserves have been built up in advance. This becomes apparent if the anticipated income from AHV, pension funds and savings is less than the required income as determined in the affordability calculation after the second mortgage has been repaid. There are three ways of dealing with a shortfall: voluntarily pay off the first mortgage, increase one s retirement income by purchasing additional pension fund benefits, or take out a life annuity. The choice of option can be left until shortly before retirement. However, the necessary capital will need to have been accumulated much earlier. In this connection, endowment insurance policies offer a practical alternative for homeowners who want to build up their assets. These policies combine retirement benefits with the necessary risk coverage, can be used for indirect mortgage repayment, and offer tax advantages (Pillar 3a). All in all, they provide a well-balanced package offering protection, retirement provision, capital repayment, and tax optimization. Special risks associated with advance withdrawal under WEF The advance withdrawal of pension fund assets will reduce the individual s retirement pension and, depending on the pension fund, may also result in reduced disability or death benefits. The reduction in risk coverage should be made good in all cases. Additional saving within the Pillar 3 framework is necessary if you want to be sure that you can afford to own your own home in your old age. 17

18 Affordability in the event of disability or death/ In case of accident, illness or death, social insurance often cannot offer the replacement income that is necessary to finance your own home. In the event of accident or death, the benefits from a range of social insurance policies come into effect. These vary from person to person. They depend on the employment relationship, employer regulations, the pension fund, personal factors (age, the number of contribution years, income, and marital status/family situation) and on whether the occupational disability or death was caused by an accident or an illness. Example: Benefits in the event of occupational disability due to illness Required income Additional income required to secure the residential property Salary Obligation to continue salary payments Daily sickness benefits BVG pension IV pension AHV pension Earned income of partner Start of incapacity for work 1 year 2 years Regular retirement Timeline Example: Benefits on death Income required for current mortgage Income of the survivors Reduction of the mortgage to secure the home Salary BVG pension AHV pension Earned income of partner Date of death Timeline 18

19 Ensuring affordability/ Protection against every occurrence is impossible. Alexandre Ballif has been advising clients at AXA s general agency of Pensions and Assets in Fribourg since If mortgages are only approved for those who pass the affordability test, then why is it necessary to take further precautions? Alexandre Ballif: The affordability test assesses the situation at a given point in time but it doesn t consider events such as divorce, unemployment or death. No one likes to think about what may go wrong in life. And you certainly don t want to be faced with losing your home when you re already in a tough situation. What do you recommend? Unfortunately there s no simple solution to all of life s problems. In most cases, life insurance provides a relatively affordable form of protection against occupational disability or death. Divorce and unemployment, on the other hand, are more complicated. If the home is unaffordable when the borrower reaches old age, he or she will have to either repay the mortgage sooner, which may not be a good choice for tax reasons, or have sufficient capital for retirement from other sources. But the second mortgage has to be repaid at the time of retirement. Won t this reduce the burden sufficiently? This differs from case to case. Borrowers are especially likely to run into problems if they ve made advance withdrawals of pension fund assets. This is the case in almost two thirds of all home purchases today and has a major negative impact on pensions. I therefore urge my clients to draw up a regular savings plan after they ve made the withdrawal so that they can make up the shortfall. But doesn t the mortgage lender have an interest in ensuring that interest payments can be met? Certainly, and that s why they not only apply the affordability test but also require borrowers to take out term life insurance. But it s unusual for them to insist on any additional steps. 19

20 Budgeting as a homeowner/ Unless interest rates are high, one thing is clear: owning your own home is affordable. At least, that s how it seems at first glance. But some important obligations of homeowners can be forgotten. If you look at housing costs alone, rented property is almost always more expensive than owner-occupied property. The total derived from mortgage interest, capital repayments and ancillary costs virtually always comes in lower than the rent for a comparable property. But when planning their budgets, homeowners will notice the effect of the less obvious items, such as reserves for renovations and remodeling, expenditure on protection, and the burden of accruing savings to compensate for advance withdrawals from pension funds. It would also be logical to include the costs of one s deposit (i.e. in the form of lost interest and dividends). These costs can be considerable. Experience tells us that the largest portion of expenses is down to operating costs (e.g. chimney cleaning, general cleaning, controls), insurance premiums, duties, and repairs. Approximately one third needs to be allocated for replacing equipment and major renewal projects. But this doesn t make much difference. In the case of a property worth CHF 800,000 this would come to around CHF 25,000 after ten years, an amount that would be barely enough to put in a new bathroom. Tax on residential property Prepared for changes, thanks to reserves Reserves of 1 % a year are sufficient for maintaining the value of the property, but they won t cover the cost of any upgrades to meet new requirements. Improvements in energy efficiency, a new kitchen, putting in a fireplace, adding a conservatory, other remodeling work the need is sure to arise, often sooner than one thinks. Projects of this kind are always expensive, and putting money aside regularly to finance them is a must. Owners of condominium property often The imputed rental value and the value of the property itself will increase the homeowner s tax burden. At the same time, however, the debt, the associated interest, and the cost of maintenance and administration are all tax-deductible. A house that is not maintained will fall in value Homeowners also have to shoulder the cost of maintaining their property, in addition to standard ancillary costs such as energy and fees. As a rule, ancillary and maintenance costs are calculated as 1 % of the property s value. Whether the actual amount is higher or lower depends on the property s features and surroundings. The older the property, the higher its maintenance costs are likely to be. Tax burden Income tax Imputed rental value Imputed rental value is the putative income that would be realized if the property were rented out. Calculating the imputed rental value is a complicated procedure that varies from canton to canton. The tax authority will provide the figure in writing, and it must be declared as income in the tax return. Wealth tax Taxable value The taxable value is calculated by the cantonal tax authorities and must be entered as wealth in the tax return. Tax relief Deductions for maintenance and administrative costs. Amounts that are spent on maintenance and administration can be deducted from income. Such deductions are applied either as a fixed amount that varies from canton to canton, or by providing proof of the actual expenditure. The key factor is that the money must be used to maintain the value of the property. Expenditures that result in a permanent increase in the value of the property do not fall under maintenance costs and are not deductible. Deduction of debt interest Mortgage interest is tax-deductible. Deduction of loan debt The amount of the loan is tax deductible. 20

21 have to make regular payments into a renewal fund, which is used to finance renovation projects for the property in the future. It also makes sense to build up a cushion in case interest rates rise. Every mortgage has to be renewed at some point. Anyone faced with high interest rates at this time is likely to see their housing costs multiply. Unlike conversion plans, this additional cost is unavoidable. The final items to be recognized in the budget are the life insurance premiums which ensure that the property remains affordable and the payments into the pension plan if pension assets were withdrawn in advance. An account for your house Homeowners receive payment slips to remind them to pay premiums and contributions into their pension plan. However, putting money aside for maintenance, renovation and an interest rate reserve is something that is easily forgotten or sacrificed to the needs of another project. One tried and tested method of avoiding this problem is to set up a separate house account and to transfer a fixed monthly amount to this account by standing order. Balancing the downs against the ups This kind of budget is important because it raises awareness of an unexpectedly high set of costs. At the same time, with a little discipline it should be possible to finance these measures. When a mortgage application is being assessed in terms of affordability it is almost always assumed that the burden on the owner is in fact even higher. In times of moderate interest rates, the reserves and savings plans can usually be financed comfortably by using the difference between the maximum affordable cost burden as established by the affordability test and the effective housing costs. The myth of residential property as a tax haven The widely accepted notion that homeowners enjoy special tax privileges because of all the income tax deductions is incorrect. Or at least it is only a half-truth, because imputed rental value constitutes the flip side of all the deductions. In times of moderate interest rates, this income, which is not available but nevertheless needs to be declared, by far exceeds the mortgage interest, which can be deducted. Even deductions for maintenance can t change anything here. Residential property then 21 becomes a tax fine.

22 All aspects of insurance for homeowners/ The dream of owning your own home has become a reality and all is clear for construction to begin. But what will happen if a liability claim is filed, or if there are construction defects or a fire? Appropriate insurance is essential. Construction insurance Builder s risk insurance The collapse of a ceiling or wall should be included in any realistic calculation. Builder s risk insurance covers damage to own buildings, protects capital that s already been invested and helps avoid additional unplanned costs. Builder s liability insurance Builder s liability insurance covers financial claims brought against the builder or property owner on the basis of statutory liability provisions following personal injury or property damage. Builder s legal protection insurance for private individuals This insures the builder in the event of disputes about hidden defects which are only discovered after the acceptance protocol has been produced and /or the building has been commissioned and which were not apparent at any earlier stage. Builder s legal protection insurance is taken out as a supplement to construction insurance (builder s risk insurance, builder s liability insurance). Building property insurance Fire insurance including coverage against natural forces Most cantons require buildings to be insured against fire through a cantonal buildings insurer. In other cantons (Geneva, Valais, Uri, Schwyz, Appenzell Innerrhoden, and Ticino), fire risk can be included under a building property insurance policy purchased from a private insurer. Water insurance Apart from high water and floods, water can also cause damage that is not covered under natural forces coverage provided by cantonal and private fire insurers. This includes water from water pipes, frost damage to water pipes and apparatuses connected thereto; damage from rain, snow and meltwater; backups from sewers; fluids leaking from heating, air conditioning and cooling equipment; loss of rental income as the result of water damage. Earthquake insurance There are major gaps in coverage here since most buildings in Switzerland are not insured against earthquake damage. Cantonal fire insurers provide insurance coverage in the form of earthquake funds but this coverage is limited and often cannot be enforced by law. No such solution exists in cantons without cantonal building insurance. Burglary insurance All damage resulting from burglary involving shared rooms and facilities can be insured. This type of insurance is especially important for owners of multifamily buildings because they can also be held liable for damage that cannot be clearly attributed to one particular resident. In the case of owner-occupied single family homes, damage is covered under household contents insurance. 22

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