Foreign currency loans – interest rates, comparison and operation

A foreign currency loan is a financing option that offers the investor both opportunities and risks. Since there are many ambiguities in this regard, let us try to present the most important facts.
Important information

An important note in advance: Foreign currency loans were popular a few years ago to exploit the lower interest rates – such as in Switzerland. However, since 2008, interest rates have fallen by more than two-thirds in Germany, and loans in foreign currencies no longer offer an interest rate advantage, but rather the disadvantage of unfavorable exchange rates for the customer.

For this reason, a foreign currency loan currently makes no sense. Instead, we recommend concluding a “normal” annuity loan in euros. With our mortgage calculator , you can daily compare the current conditions of different banks and intermediaries.

Image result for money graphic

What is a foreign currency loan?

A foreign currency loan is a loan that is not taken in euros but in another currency. One can also speak of a speculation on the currency development, by hoping that the course develops so that the amount of liability is reduced.

Another aspect is the interest level of the state concerned: for example, loans are cheaper in Switzerland than in Germany, and investors would also like to benefit from this.

Important questions about the topic

Which investments are financed by foreign currency loans?

A foreign currency loan is usually an instrument for the long-term financing of real estate. They were heavily promoted before the economic crisis, and banks have become more cautious and restrictive in granting. For example, such a loan is only granted if the homebuyer could also afford euro-funding.

In which currencies are foreign currency loans granted?

First and foremost, Swiss francs are used, but there are also variants that are financed with yen or dollars. The choice of currency depends on the current price and interest rates in each country.

How is the repayment of a foreign currency loan done?

The repayment is one of the peculiarities of a foreign currency loan: It takes place at maturity. This means that you only service the interest during the term. These are usually settled on a quarterly basis, and exchange costs are payable for each interest payment.

In parallel, one saves a so-called repayment vehicle. This can, for example, be a life insurance or a fund savings plan. The goal is to use the repayment vehicle to build up the capital necessary for repayment and thus be able to repay the loan in full at the end of the term.

In order to be prepared for any currency fluctuations, the repayment vehicle is “overcharged”, which means that one does not work exactly on the loan amount, but hopes to make a profit.

Where are the dangers, where are the opportunities for foreign currency financing?

Ideally, the repayment vehicle pays the expected profit, the interest rate level remains below the domestic rate, and the exchange rate does not change too much. Then one can speak of a successful financing. Unfortunately, capital market developments are unpredictable, and it will be enough if one of these three factors is not correct to create tremendous problems for the investor.

For example, the Swiss franc is currently extremely strong against the euro. For those who have taken out a foreign currency loan in recent years, that means that the debt in euros has increased by thirty to forty percent.

In this case, you have two options: you stay in foreign currency loan and hopes. This makes sense if the loan runs for several years. The second – and more expensive – option would be to convert the foreign currency loan into a euro loan. Although it increases the debt mountain abruptly, but on the other hand, you know exactly how high the liabilities are still.

Since the procedure always depends on the individual case, one can only recommend to discuss the current situation with the bank and then make a decision.

Judgments on the subject

There are a number of important judgments on financing real estate through foreign currency loans, some of which we would like to introduce below:

Currency losses can not be offset against revenue

The most important judgment for externally leased real estate, which was financed by foreign currency loans, comes directly from the Federal Fiscal Court. Under the reference IX B 42/16, the highest court judges in Germany ruled that currency losses are not interest on debt and thus can not be deducted as income-related expenses. The judges based this judgment on the fact that there is no correlation between the development of the exchange rate and the leasing of the financed property.

The judgment applies to all tax years from 2010 and prohibits the hitherto gladly tried practice to offset the currency loss of the loan with the rental income in order to reduce the tax burden.

Insufficient information on the risks of a foreign currency loan

It would be better if the bank had insufficiently informed the borrower about the risks inherent in a foreign currency loan. The 2014 European Court of Justice judgment, issued under reference C-26/13, states that the bank must inform the borrower that the total cost of a loan in foreign currency varies with the exchange rate.

The verdict is customer friendly, but the borrower is in the burden of proof for the wrong advice. Only witnesses who were present at the loan interview, or consultation or consulting minutes that have been signed on both sides, can help here.