The banks must lower rates to retain Customers. In this article we will focus on the early repayment penalties and the fact that the banks are not allowed to impose penalties.
The fact that banks are not allowed to impose penalties on clients for early repayment of mortgages is like an elephant in the living room in the banking sector. Everyone who is in the know realizes that it is the case, but it is not discussed much. Especially, in banks, for obvious reasons, it is not discussed with clients. I must mention beforehand that no one can guarantee that the situation will not change. But more on that later.
It all started with the law
In December 2016, a new Consumer Credit Act comes into effect. The law states that the bank is entitled to request from the client, with the exception of certain situations, a penalty corresponding to the costs incurred in the event of early repayment.
What does this mean? There is a consensus in the market that the costs incurred can include the lost interest income until the end of the fixed period.
When calculating the penalty for early repayment of a mortgage, banks simply examine at what rate they originally lent to the client and at what rate they could lend the money again at the time of early repayment. If they could lend the money at a lower interest rate than the client was paying, there is a loss in the form of the difference, and the client will have to pay it. If they could lend the money at a higher interest rate, the client will only be charged an administrative fee of a few hundred crowns, because there is no lost interest.
It is clear that a clients can face a high penalty if they want to repay their mortgage earlier than planned, especially during a time when interest rates on new mortgages are lower than the interest rate on their mortgage. For example, if a client had a mortgage with a 3% rate and wanted to repay it earlier than planned when new mortgages were being provided at a 2% rate.
The Czech central bank is entering the game
In March 2019, the Czech National Bank issued a statement which states, I quote (for those who do not want to read it, simply the lost interest will not pass):
The cost incurred in connection with the early repayment of a consumer loan for housing is not also the reduction of interest income for the lender after the early repayment of the consumer loan for housing, or the interest costs of the lender from its debts. In the first case, this is not a cost, but a lost profit. In the second case, this is not a cost incurred in connection with the early repayment of a consumer loan for housing, but again (a wasted) cost of providing the consumer loan. Therefore, the reduction in interest margin profit or any possible (wasted) refinancing costs, regardless of their designation (such as “opportunity costs”, “costs of obtaining financial resources”, “loss in interest income”), cannot be classified as reasonably incurred costs of the lender incurred in connection with the early repayment of the loan because the legally required connection with the early repayment is missing, and therefore cannot be the subject of compensation that the lender can demand from the consumer according to § 117(2) of the Consumer Credit Act.
And the situation that still exists today is born
According to the interpretation of recommendation of the Czech National Bank, in connection with an early repayment, banks have no other legitimate claims than the reimbursement of administrative costs, which range from 500 CZK to 1500 CZK.
Not all banks fully respected this recommendation of the Czech National Bank and throughout 2019, a sometimes quieter, sometimes quite loud “battle over sanctions” took place. There are many articles on this topic over the years. After many disputes in court, with the financial arbitrator and many tens of millions CZK in fines paid by banks later, it can be stated that all the banks have “calmed down”.
I have my own ranking of banks based on their willingness to respect the interpretation of the Czech National Bank. It is quite clear cut, but I will keep it to myself, because although it is based on my rich experience, it does not necessarily say anything about the future, and also, I do not want to name specific institutions.
What follows from this?
What follows from this is that the bank does not have a tool to hold its client. Here, I would like to emphasize that I do not evaluate the correctness of such a situation or the commercial sense of it, I am only describing reality as it is.
Why is it important to know this?
If you were to take advantage of the current market conditions and purchase a property at a relatively low price compared to a year or two ago, you can do so largely thanks to the high interest rates on mortgages.
So, you have a choice: you can either choose to buy now at a high interest rate, but with the assurance that the purchase price will remain favorable and that you can potentially lower the interest rate later, or you can wait for interest rates to decrease but this could result in a more competitive market and limit your chances of finding a good deal. The dormant demand for property is high, and as interest rates remain high and rents continue to rise, there is a potential for the market to become more active once mortgages become more accessible again.
Can it change?
Yes, it can and it probably will change. There have been talks for a long time about amending the law which will probably change this situation and allow banks to impose sanctions higher than administrative costs. If I go by the current development, I dare to estimate (and it is only an estimate) that this will not happen before the second half of 2024. However, even if it were to happen earlier, I assume that by then there will be at least temporarily lower interest rates on mortgages, and thus the opportunity to lower the rate on existing mortgages.
Author: Ing. Jakub Rotrekl, Ph.D, mortgage specialist
Phone: +420 773 508 885
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