Why is my home loan 20 years but my vehicle is financed over 5 years?

Should I buy a car or a house? This question has been the subject of many debates for as long I can remember. It also happens to be a Twitter Saturday morning favourite debate. If you're lucky you might even see an excavator enter the discussion. It's a decision most people will need to ponder at some point in their lives. The answer to this question is not easy and there is no one size fits all formula, and ultimately depends on what the needs of each individual person are. In South Africa for one, public transport is a shambles and a car becomes necessary to get around easier - the type of car is another conversation altogether. 

An even more hotly contested follow-on question is why can a car be financed over a shorter period of time than a house?

Roughly 100 years ago (some of you weren't around), houses in the US were financed over a 5-year period with a heavy balloon payment. That system was okay for banks that were well capitalized and always had cash on hand to lend out. Then came the Great Depression and a "run on the bank", when people started withdrawing their cash. Sounds a bit like 2008? Having depositors all pulling their cash out at the same time is a bank's worst nightmare. So then came regulations to push out mortgages to 15 years, 20 years and then 30 years.

So, taking out a 20/30-year mortgage isn't something set in stone - it all comes down to banks' ability to recover its money in the event of a default by the customer through selling the asset that was financed.

Let's look at a car. A car is a depreciating asset, yes, it is an asset. The loan obtained to purchase the car is the liability and the costs of maintaining the car are the expenses, which include the costs of operating and maintaining the car.

A depreciating asset is an asset that generally has a limited life span with a value that decreases quickly.

When you buy a car using a bank car finance loan, the car is taken as security by the bank, so that in the event of you being unable to pay the loan, the bank can repossess it and sell it to recover any monies outstanding.

Because a car is a depreciating asset, the value the bank will receive diminishes over time, for that reason (well amongst others), banks fund cars over a shorter period of time. Interest on car loans also tends to be higher than that provided for home loans because of the risk nature of cars.

Houses on the other hand, tend to be assets that appreciate in value. This means a house will generally increase in value over time (emphasis on generally, house values don't always go up). The liability is the home loan provided to buy the house and the expenses are the costs of maintenance.

When you buy a house using a bank home loan, the house is taken as security (mortgage bond). A mortgage bond allows the bank to secure the house against the claims of third parties and to repossess the house if you are unable to keep up with your home loan repayments but because a house will generally appreciate in value over time, banks are willing to provide longer dated funding at cheaper interest rates.

The longer period means your monthly repayment of your home loans is lower than your car repayment of the same value (math not meth). However, there is no reason why you would not be able to pay off your home loan quicker should you wish to do so. This will in fact save you a bit of money on the interest bill on a primary residence in the long and is advisable. On an investment property however, paying off the loan quickly will cause you a tax headache as you will not be able to deduct the cost of the interest which is significant in the early years of a home loan and will be stuck with a higher tax bill.   

So, on paper, a car and a house financed for the same amount, on the same interest rate and for the same period will result in the same monthly repayments. The issue is that banks will not take the risk of financing a depreciating and high-risk asset over long periods of time. This affects the ability of a bank to recover what is owing to it significantly.

In reality even though the financing or repayments may be the same to the bank provided the mathematical inputs are the same, the other added costs are not. For instance, in buying a car one would need to consider the cost of insurance, a maintenance plan, tyres, petrol etc. and in buying a house one would need to consider legal costs, tax, levies, municipal rates, insurance, maintenance and repairs etc., the cost of which will not be the same. Your bond repayment might be R10k but you could comfortably find yourself paying R14k in house related costs. The "true" costs of ownership is something that's easy to miss until you physically own the asset. Pro-tip: always build in head-room before buying a car/ house for the costs of ownership.

It is therefore important to make your decision based on your current and future circumstances taking into consideration the opportunity cost of each situation and what works best for you. Make a comparison on the different types of financing available for each asset: do you perhaps want to lease instead of buy a car, do you want to put down a big deposit on a house or even rent for a while to enable you to travel or live overseas for a while. All the while noting that a view on a car is for a much shorter term (5 years) opposed to a house (20 years). If you decide to rent out your property, what will the gap be between your bond payments and the rent you receive? This gap can end up being wide.

Whenever you're looking at a property, go in with the intention to chisel down the house price, the interest rate and consider a deposit. These might seem like really small changes but they make a huge difference over the life of your bond. Despite what the sales agent, bank manager and seller will try to convince you - everything is negotiable.

Next time you see the argument over cars vs houses, you know the answer is actually owning an excavator.

*Disclaimer: The contents of this article should not be considered as legal, professional, financial or any other form of advice. These are merely views based on the writer's personal experience. Readers should obtain independent advice on any matter prior to making any decision.

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