What should you consider when taking out a mortgage?

What is a mortgage?

A mortgage is a loan secured by a lien on a property. The bank provides part of the purchase price. The land, house or apartment serves as security.

The borrowers undertake in particular to:

• pay the mortgage interest regularly,
• complete the agreed direct or indirect amortisation,
• maintain the value of the property,
• comply with information and contractual obligations,
• maintain sufficient building insurance where required,
• notify the bank of important changes in their financial or personal circumstances where required by the contract.

If the mortgage can no longer be serviced over the long term, the bank may realise its security. A mortgage is therefore not simply an interest-rate decision, but a long-term obligation connecting income, assets, pension provision and personal planning.

First and second mortgage

Swiss banking practice commonly distinguishes between a first and second mortgage:

Whether the bank manages these parts as separate agreements depends on the institution and the selected model. The main considerations for borrowers are the amount that must be amortised and the conditions applying to both portions.

How much equity is required?

For owner-occupied residential property, banks commonly require equity of approximately 20 percent of the lending value. The specific maximum loan-to-value ratio depends on the bank, property, income, age, use and risk assessment.

At least 10 percent outside the second pillar

At least 10 percent of the lending value must come from equity that is not based on an advance withdrawal or pledge of occupational pension assets.

Depending on the bank and financing structure, possible forms of equity may include:

• bank and savings balances,
• securities and other pledgeable assets,
• pillar 3a assets,
• surrender values of certain insurance policies,
• advances on inheritance and gifts,
• certain private loans with an assignment or subordination agreement,
• under certain conditions for owner-occupied residential property, loans from close family members,
• second-pillar assets for the portion exceeding the required equity outside occupational pension provision.

The purchase price and lending value are not always identical

The bank does not automatically use the agreed purchase price as the financing value. It values the property and determines a lending value, which may be below the purchase price.

Property purchase price:                CHF 1'100'000
Bank lending value:                     CHF 1'000'000
Maximum mortgage at 80%:                CHF   800'000

Required funds:
20% of the lending value:               CHF   200'000
Difference between price and value:     CHF   100'000
------------------------------------------------------
Total required equity:                  CHF   300'000
plus purchase costs and reserves

The difference between the higher purchase price and lower lending value must be financed entirely using equity that does not come from the second pillar. An excessive purchase price may therefore significantly increase the equity requirement.

Withdraw or pledge pension fund assets?

An advance withdrawal should not be assessed solely on the basis of the short-term increase in available equity. Taxes on the capital payment, pension gaps, repayment obligations following a later sale and affordability during retirement are also important.

How is mortgage affordability calculated?

Affordability indicates the extent to which sustainable income is burdened by the long-term costs of owning the property. Banks do not base this assessment solely on the current mortgage rate, but use imputed assumptions and their own safety requirements.

Typical components of the bank’s calculation

• imputed mortgage interest,
• required amortisation,
• property maintenance and ancillary costs,
• existing loans, leasing agreements and other obligations,
• sustainable eligible income,
• depending on the bank, age, employment status and long-term income security.

As sustainable supervisory criteria for owner-occupied residential properties, FINMA cites, for example, a burden limit of 33 percent of sustainable gross income together with an imputed interest rate of 5 percent and imputed ancillary costs of 0.8 percent of the lending value for properties in nearly new condition. This is not a single statutory formula applying to every household. Banks may apply stricter or differently structured criteria.

Purchase price:                         CHF 1'000'000
Lending value:                          CHF 1'000'000
Mortgage:                               CHF   800'000
Household gross income:                 CHF   180'000

Imputed interest at 5%:                 CHF    40'000
Ancillary costs at 0.8%:                CHF     8'000
Estimated annual amortisation:          CHF     8'900
------------------------------------------------------
Imputed annual financial burden:        CHF    56'900

Burden in relation to income:           approx. 31.6%

The actual monthly burden may be substantially lower when market interest rates are low. Several scenarios should nevertheless be calculated before purchasing.

Personal stress test

Calculate the financing for the following situations as well:

• significantly higher mortgage rates,
• part-time work following the birth of a child,
• temporary unemployment,
• long-term illness or disability,
• separation or divorce,
• major renovations,
• retirement with a lower income,
• unexpected condominium ownership costs.

Which mortgage models are available?

Fixed-rate mortgage

With a fixed-rate mortgage, the interest rate is fixed for an agreed term. The interest costs therefore remain predictable during this period.

Advantages:

• high degree of budget certainty,
• protection against increasing market rates during the term,
• straightforward financial planning,
• suitable for households with limited risk capacity.

Disadvantages:

• no direct benefit from falling rates,
• limited flexibility during the fixed term,
• potentially high costs for early termination,
• renewal risk at the end of the term.

SARON mortgage

With a SARON mortgage, the interest rate is based on a money-market reference rate. The bank margin agreed in the contract is added to the calculated SARON.

Advantages:

• more direct adjustment to the interest-rate environment,
• potentially less expensive when short-term rates are low,
• depending on the framework agreement, greater flexibility than a long fixed-rate mortgage,
• transparent separation between the reference rate and bank margin.

Disadvantages:

• interest costs can increase rapidly,
• less budget certainty,
• contracts frequently contain minimum or base-rate provisions,
• SARON products may also have fixed framework terms and termination conditions.

Variable mortgage

With a variable mortgage, the institution sets the interest rate and may change it. These mortgages are often more flexible to terminate, but may be more expensive than other models.

They may be used as a short-term transitional solution where a property is to be sold soon or the borrower has not yet decided which long-term model to select.

Overview of the models

Choosing the right interest-rate strategy and term

The appropriate term does not depend solely on a personal interest-rate forecast. Financial risk capacity, personal plans, the possibility of a sale and the ability to bear higher interest costs are more important.

Questions to consider before choosing

• How much may the interest burden fluctuate?
• How long is the property likely to be retained?
• Could a sale, move or divorce occur during the term?
• Is sufficient liquidity available to absorb higher interest rates?
• When will retirement begin?
• Which amortisation is planned?
• Should it be possible to transfer the mortgage to another bank later?

Dividing the mortgage into several tranches

Dividing the mortgage can prevent the entire amount from having to be renewed on the same date. This reduces the risk of having to refinance the complete mortgage during a period of high interest rates.

However, dividing the mortgage also has disadvantages:

• different maturity dates make it more difficult to switch banks,
• a single tranche frequently cannot be transferred to another institution independently,
• several agreements increase complexity,
• smaller tranches may receive less attractive conditions,
• the strategy may create long-term dependence on the same bank.

Do not rely solely on interest-rate forecasts

Even experts cannot reliably predict interest-rate developments over many years. A robust strategy should therefore not only work under the expected scenario, but remain affordable if developments are unfavourable.

How must a mortgage be amortised?

For new financing and loan increases, the mortgage must be reduced to two-thirds of the lending value within no more than 15 years. Required direct amortisation is generally linear and begins no later than within the applicable period following payment of the loan.

Direct amortisation

With direct amortisation, the mortgage is regularly reduced.

Advantages:

• the mortgage debt decreases immediately,
• interest costs decrease where the rate remains unchanged,
• the loan-to-value ratio and financial risk are reduced,
• simple and transparent.

Disadvantages:

• less liquidity for other purposes,
• tax-deductible debt interest may decrease under the current system,
• the repaid capital is tied up in the property.

Indirect amortisation

With indirect amortisation, the agreed amount is paid into a solution such as pillar 3a. The pension assets are pledged to the bank and later used to reduce the mortgage.

Advantages:

• accumulation of pension capital,
• possible tax deductions for pillar 3a contributions,
• the mortgage and debt interest initially remain higher,
• structured combination of pension provision and amortisation.

Disadvantages:

• the higher mortgage remains in place for longer,
• greater dependence on interest rates,
• the capital is tied under pension law,
• returns and fees of the pension solution influence the result,
• changes to the tax system may alter the calculation.

The better option depends on income, the tax situation, pension gaps, the interest rate, investment horizon and risk capacity. Comparing tax deductions alone is not sufficient.

Which additional costs must be considered?

Mortgage interest is only one component of the total housing costs. A complete budget includes all one-off and ongoing expenses.

One-off purchase and financing costs

• notary costs,
• land register fees,
• cantonal property transfer taxes or comparable charges where applicable,
• costs for the mortgage note or property lien,
• bank valuation and processing fees,
• financing or advisory costs,
• moving and furnishing,
• immediately necessary renovations.

These costs vary according to the canton and contract and are frequently not financed in full by the mortgage.

Ongoing costs

• mortgage interest,
• amortisation,
• building insurance and other insurance policies,
• energy, water and charges,
• maintenance and repairs,
• taxes and possible property charges,
• administration costs for condominium ownership,
• contributions to the renovation fund,
• major periodic refurbishment.

Renovation reserve

The ancillary costs used in a bank’s affordability calculation do not guarantee that the amount is sufficient for the specific property. The actual requirement may be substantially higher for older houses, properties requiring renovation or condominiums with an inadequately funded renovation reserve.

How should mortgage offers be compared?

The advertised interest rate is only one point of comparison. Two offers with similar rates may differ considerably in flexibility, fees, amortisation and termination costs.

Compare total costs rather than only the nominal rate

Provider:                            [name]
Mortgage amount:                     CHF [amount]
Model:                               [fixed / SARON / variable]
Interest rate or margin:             [details]
Contract term:                       [years]
Annual interest costs:               CHF [amount]
Annual amortisation:                 CHF [amount]
One-off fees:                        CHF [amount]
Recurring fees:                      CHF [amount]
Additional amortisation possible:    [yes / no]
Early termination costs:             [calculation]
Transfer to another property:        [conditions]
Notice period:                       [details]
Additional products required:        [details]

Request offers from several providers

Compare banks, insurance companies, pension funds and mortgage brokers using the same property and financing information. Only then are the offers genuinely comparable.

Professional advice may be useful, but it should transparently disclose:

• which providers are considered,
• how the adviser is remunerated,
• whether commissions or brokerage payments are received,
• whether the comparison covers the entire market or only contractual partners,
• which services are provided after the agreement has been concluded.

Which contractual and personal risks are important?

Early termination of a fixed-rate mortgage

If a fixed-rate mortgage is terminated before the agreed end date, the bank may charge an early repayment penalty. Depending on the remaining term, interest-rate level, mortgage amount and contract, this may be very high.

Possible reasons include:

• sale of the property,
• separation or divorce,
• moving abroad,
• an inheritance and early repayment,
• switching to another institution,
• major restructuring of the financing.

Before concluding the agreement, check whether a transfer to a new property, assumption of the contract by the buyer or another special arrangement is possible. There is no automatic entitlement to such a solution.

Interest-rate risk

A SARON or variable mortgage may become considerably more expensive if rates rise. With a fixed-rate mortgage, the interest-rate risk primarily arises at maturity when the financing must be renewed.

Income risk

The financing should not work only with today’s income. Allow for possible changes such as children, part-time work, self-employment, unemployment, illness or retirement.

Mortgage insurance

Term life or disability insurance may be useful where affordability depends heavily on one person or where family members could not retain the property following a loss of income.

Such insurance does not replace a solid financing structure. The following should be checked in particular:

• insured events,
• insured amount,
• health assessment,
• waiting periods,
• exclusions,
• benefit duration,
• beneficiary designation or pledge in favour of the bank.

Changes in the property’s value

If the property value falls, the loan-to-value ratio increases mathematically. This may become particularly important when selling, refinancing, increasing the loan or where the original financing was tight.

Conversely, increases in value should not be regarded as a guaranteed substitute for amortisation and reserves.

What should be considered before retirement?

Many households have less disposable income after retirement. The bank may therefore examine whether the mortgage remains affordable using retirement income.

Plan early

Ideally, the financing should be reviewed several years before retirement. Important questions include:

• How high will state pension, pension fund and other retirement income be?
• How high will the mortgage be at retirement?
• Will retirement income satisfy the bank’s imputed affordability calculation?
• Should additional amortisation be completed?
• How much liquidity will remain after amortisation?
• Are renovations or energy improvements approaching?
• Is the property suitable for older occupants?
• Would a sale or smaller property make more sense over the long term?

Renewing the mortgage or changing banks

Begin planning the follow-on financing early. The necessary preparation period depends on the agreement, model and provider.

Check before renewal

• the exact maturity date of every tranche,
• notice and notification periods,
• the current mortgage debt,
• the property’s updated lending value,
• changes in income and assets,
• planned renovations or loan increases,
• direct or indirect amortisation,
• possible costs of changing banks,
• transfer or amendment of the mortgage note.

Do not automatically accept the renewal offer

Existing customers do not necessarily receive the best available conditions automatically. Compare the renewal offer with several alternatives and negotiate the rate, margin and fees.

Changing providers is easiest when all tranches expire at the same time. Staggered terms may restrict a switch or temporarily make it uneconomical.

Practical examples

Step by step to the right mortgage

1. Record the household budget and sustainable income.
2. Separate the available equity according to its source.
3. Plan purchase costs and a liquidity reserve separately.
4. Calculate a realistic maximum purchase price.
5. Critically assess the property value and possible lending value.
6. Calculate affordability using imputed and higher interest-rate scenarios.
7. Analyse the property’s renovation and maintenance requirements.
8. Compare fixed-rate, SARON and other models based on personal risk capacity.
9. Compare direct and indirect amortisation.
10. Obtain several comparable financing offers.
11. Check fees, early termination costs and switching conditions.
12. Obtain financing confirmation before making a binding purchase commitment.
13. Coordinate the purchase agreement, land register, mortgage note and financing.
14. Review the mortgage after changes in circumstances and before every renewal.

Checklist: Reviewing a mortgage completely

Frequently asked questions about mortgages in Switzerland