Rising Interest Rates Increase Loan Repayment Burden...Will Customized Products for the Rate Hike Era Make a Comeback? (Comprehensive)

Variable Interest Rates Account for 50.3% of Mortgage Loans, 'Half'
Loan Products Tailored for Rising Interest Rates, Previously Overlooked
Regaining Attention Amid Interest Rate Hike Trends

[Asia Economy Reporter Park Sun-mi] Following the Bank of Korea, financial authorities such as the Financial Services Commission and the Financial Supervisory Service have also warned that preparations must be made for the rising interest rate period, signaling signs of the revival of loan products tailored for the interest rate hike period that had been neglected until now.

According to the financial sector on the 29th, the four major domestic banks?KB Kookmin, Shinhan, Hana, and Woori Bank?offer principal and interest installment repayment type mortgage loan products with variable interest rates ranging from a minimum of 2.51% to a maximum of 4.01%. Based on current interest rates, if one sets a loan period of 10 years to purchase a 900 million KRW apartment and borrows 200 million KRW, the average monthly repayment amount is approximately 1.88 to 1.91 million KRW. On the other hand, under the same conditions but applying a fixed interest rate, the four major banks’ rates range from a minimum of 2.74% to a maximum of 4.44%, with an average monthly repayment amount of about 1.92 to 1.94 million KRW.

Simply comparing, using a variable interest rate results in a lower average monthly repayment amount, but the problem is that we are currently in a period of rising interest rates. According to the Korea Financial Investment Association, the 10-year government bond yield rose from 1.71% at the end of last year to 2.01% as of the 26th of this month. During the same period, the 3-year government bond yield increased from 0.98% to 1.12%, and the 5-year government bond yield rose from 1.34% to 1.53%.

Borrowers’ Burden Increases When Using Variable Interest Rate Loan Products During Interest Rate Hikes

The average monthly repayment amount is based on the assumption that the average interest rate at the time of loan origination remains constant throughout the loan period. If interest rates continue to rise, borrowers using variable interest rate loan products will face increased principal and interest repayment burdens due to the rising rates. Currently, borrowers using variable interest rate loans account for about half of all borrowers. As of the end of last year, the proportion of variable interest rate loans among mortgage loans, including jeonse deposit loans in the banking sector, was 50.3%. This means that more than half of all borrowers are exposed to the risk of increased repayment burdens due to rising interest rates.

Currently, financial authorities are reviewing the operational status and issues of interest rate risk mitigation mortgage loans, which were introduced in March 2019 but did not attract much attention. At that time, following the financial authorities’ proposal, 15 banks launched interest rate cap-type mortgage loans that limit the interest rate increase to a certain level (1 percentage point annually, 2 percentage points over 5 years) even if market interest rates rise, and fixed monthly repayment-type mortgage loans that fix the monthly repayment amount even if the principal repayment amount is reduced. However, these products were unpopular due to the continued low interest rate environment after their launch.

There was no need to hedge interest rate risk by using loans with higher interest rates. In fact, as of the end of last month, the balance of interest rate cap-type mortgage loans was only 6 cases totaling 466 million KRW, rendering them practically ineffective.

In the market, with the recent atmosphere of rising interest rates, there is growing weight to the possibility that tailored products, which had almost disappeared, may be revived if financial authorities encourage the launch of various loan products to prepare for the interest rate hike period.

Recently, Financial Supervisory Service Governor Yoon Seok-heon urged at an executive meeting the need to encourage the launch of various loan products that allow borrowers to easily utilize fixed interest rate loans or interest rate cap-type loans to mitigate interest rate rise risks if desired. Do Kyu-sang, Vice Chairman of the Financial Services Commission, also stated at a financial risk response team meeting, "We will closely monitor market conditions and proactively manage them in case the U.S. interest rate rise trend synchronizes with domestic interest rates."

Household Loan Management Plan to be Announced in April

Meanwhile, Financial Services Commission Chairman Eun Sung-soo stated that the total volume of household loans continues to increase and cannot be overlooked, and that new regulations on non-housing collateral loans such as land will be introduced in the household loan advancement plan to be announced next month.

Chairman Eun said, "Banks have so far considered mortgage loans the safest and have focused on household loans rather than loans to small and medium enterprises, resulting in household loans increasing to over 1,600 trillion KRW. The total household debt volume grew from the high 4% range in 2019 to about 8% last year," adding, "If household loans stagnate in the future, it is inevitable that bank funds will flow to small and medium enterprises." Regarding the household debt management plan scheduled for announcement next month, he said, "New regulations on non-housing collateral loans will also be introduced," and added, "We are considering measures to reduce household debt while stabilizing the real estate market at the same time."

This content was produced with the assistance of AI translation services.