The Bond – a 'hands on' approach

A bond is the negotiated amount that the bank will give you, the period of the loan and the interest rate. Like the name suggests, it’s a contract between you and the bank. A bank is less likely to grant you a bond if you have a bad credit rating or no credit history. They want to know that they will be able to receive your payments regularly. If they do grant you a bond despite your negative rating, it will be at an interest rate that is not favourable to you, i.e. several percent above the prime lending rate of the Reserve Bank (prime +). This may be your situation if you have been out of the country for a while or haven’t paid any loan or account on time or regularly, or had no clothing accounts(Clothing accounts are important to have to build a good credit rating).

For you to get a good interest rate, you will have to have a regular income, some form of a favourable credit history (credit card, loan) and a reflection that you are a prompt payer.

A standard bond is 20 years which is exactly 240 months (12 months x 20 years). Without getting too technical, let me try my best to explain how to ‘make’ money on your bond. Bear in mind though, that ‘making’ money on a bond is actually ‘saving’ money in the long term.

Let me first point out the important factors which a home owner will need to know, n, i, pv, pmt. (some important terminology)

n is the number of months of your bond, the term of the loan.

i is the interest rate, which is possibly the most important factor to any home-, property-, or vehicle owner.

pv is the principal value – also the purchase value (or the value of the loan)

pmt is the amount you will be paying per period, ie., the monthly repayment

Again, saving on a bond does not provide you with immediate cash in your pocket; it’s not a way of earning an extra income, but a way to save money. The money you will make with this technique is realized when the property is sold or when you pay off the property in less time than anticipated and have that much extra cash per month to spare.

Because this is an equation, each ‘term’ bears influence on the others. However, PV is normally going to remain the same.

The quicker you pay the bond off, the more money you will make when you sell it. One way of doing this is to increase the value of ‘pmt’.

For example:

If your bond is for R500 000 (pv), with i=15% and n = 240, your pmt will need to be R6583.95. I would like to show the equation here, but I wont, due to font restrictions.

If you were to pay 10% more than required that is R6583.95 + R659 = R7242.95 your can reduce your period from 240 months to just 160, which is 13 years.

Do I have your attention yet?

Further to the above example, and for illustration purposes, if you were to double the monthly installment, your bond will be paid off in less than 5 years (52 months to be exact)

Ok, so that’s what happens when we vary the value of pmt.

Next, let’s look at how the interest rate influences your bond term (n) With the values as above, we know that i=15% means that n=240. It would be nice to show the equation with all of these values punched in.

However, if i were reduced from 15 to 14.5… n drops from 240 to 208, which is about 17 years.

We’ve saved ourselves three years by negotiating a better interest rate! If i were further reduced to 14%, n ends up around 15 years or so!

In all bond and loan repayments there is a principal portion (used to pay the bond) and an interest portion - The banks make their money on the interest portion of course.

When we make a payment to the bank, pmt = R6583.95, using the same values as above, in the first month, the value that eats into principal amount is R333.95. The value that is interest is R6250.

Let me expound on this. Your property is owned by the bank until you’ve paid it up completely. In your first month, all that you contributed to the R500 000 house is R333.95. The rest is all interest and goes straight to the bank.

In percentage terms 95% of your first bond installment is contributing to the banks share price on the JSE and a measly 5% is a contribution towards your house.

Now, this mechanism that the bank has does not work in your favour. The first time that the principal portion starts exceeding the interest portion is… wait for it… somewhere between year 15 and 16, that is ¾ down the line. For almost the entire period of your bond, most of what you had being paying was contributing to interest.

How I plan to get money back: Discovery Vitality together with FNB currently offers a home loan. This gives you a chance to re-negotiate your interest rate. Also, depending on your Vitality status, you qualify for up to 10% of your monthly bond payment back as cash per month, up to a maximum of R1000. That means that if I was paying R10 000 into my bond, I will get R1000 back to do with as I please – which for me is putting it back into my bond. :)