Comparison rates 101

The information contained in this article is of a general nature only and should not be taken as financial or legal advice on any of the topics discussed. Always consult a financial adviser before making any investment decisions.

What is a comparison rate and how is it calculated?

When shopping around for a loan, two of the most important things to look for are the interest rate and the comparison rate. Australian regulation states that when loan interest rates are displayed the comparison rate must also be advertised, but what’s the difference?

Interest rate

In simple terms, the interest rate is a fee charged by the lender in return for giving the borrower a loan. The interest rate charged is dependent on various factors, such as:

• The purpose of the loan
• Whether the interest rate is fixed or variable
• The Reserve Bank of Australia’s cash rate
• Regulatory requirements
• Market conditions

Other considerations are the creditworthiness of borrower, the product type and the lender's desired rate of return.

The interest rate then determines how much your monthly repayments will be.

Comparison rate

A comparison rate gives a truer picture of the cost of borrowing than the interest rate alone.

Essentially, the comparison rate is the “life of loan” rate that considers things like fees and other associated costs across the term of the loan. It gives you the information you need to make a more informed decision on which product is the best for you.

When calculating a comparison rate, lenders are required use a formula that takes into account:

• The interest rate of your loan
• Any establishment fees
• The amount being borrowed
• The duration of the loan
• Repayment frequency
• Ongoing fees paid over the life of the loan

The comparison rate doesn’t include:

• Government charges such as stamp duty
• Fees and charges for options such as redraw or early repayment
• Late payment fees
• Early termination fees
• Fees and charges that weren’t available at the time the comparison rate was calculated
• Various cost savings such as fee waivers

Because no two home loans are the same, comparison rates are calculated based on a loan amount of $150,000 with a term of 25 years. Most home buyers will need to borrow more than this and will often choose a longer term, so the comparison rate should only be used as it was intended – as a tool to compare different products from different lenders, helping to determine the best loan for you.

Why the comparison rate can sometimes be higher than the interest rate

When researching products from different lenders, respective comparison rates will give you a more accurate indication of the cost of a loan than you would get by only comparing interest rates.

The information provided by comparison rates is critical when it comes to choosing your home loan, because even a tiny difference in the interest rate on your loan could cost you thousands of dollars in the long run.

As you can see, a home loan with a low interest rate but high fees and charges may have a higher comparison rate than a home loan with low fees and charges but a higher interest rate.

If you lock in a fixed interest rate for one or more years, or if your loan has a special offer, such as an introductory rate for the first 12 months, the comparison rate may seem much higher than the interest rate. This is because of the rate you revert to after your fixed interest or special offer period.

This is why – even if a comparison rate seems high – it is always worth asking why.

All the pieces of the puzzle

While the comparison rate is a good starting point, it’s not the only thing to consider when shopping around for a loan. Always compare the other features of your loan to make sure it suits your budget and long-term goals.

At UniBank, we have home loans to suit every situation.

Please note - Membership eligibility applies to join the Bank. All applications for credit are subject to our responsible lending criteria. Fees and charges apply. You can find our Consumer Lending terms and conditions available online or from any of our offices.