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Download our bond statement vs amortization table case study [ Microsoft Excel .xls file 754KB ]
Many home owners find it difficult to reconcile the entries that are reflected on their bond statements with the calculations in a standard amortization table. We therefore decided to complete a case study comparing bond statement calculations to standard amortization table calculations and to report on the interest difference between the two interest calculation methodologies. You can download the Microsoft Excel based template that we used for this case study by clicking the link at the top of the page - our findings may be easier to understand if you refer to our detailed calculations.
The template contains 5 sheets namely summary, intdiff, bond, bond2 and amort. We started by creating the bond sheet where the details pertaining to our example were entered. Note that the cells with a yellow cell background can be amended in order to perform your own calculations and the cells with a light blue background contain formulas that should be left unchanged.
Let's start by looking at the amort sheet. The calculations on this sheet basically represent the same calculations as per a standard amortization table but the format in which it is summarized is as per a typical bond statement. An important aspect to note is that the monthly debit order / payment amount includes the monthly insurance premium and bank admin fees. All input variables are taken from the bond sheet and should therefore not be amended on this sheet. You will also notice that the interest calculations are based on standard amortization table calculations and are therefore not dependent on the number of days in the particular calendar month. These amounts can be recalculated by using our online Amortization Table bond calculator. Click here to open our bond calculators page in a separate browser window.
Now refer to the bond sheet. You will notice that this sheet includes an additional column for interest days. The common practice for financial institutions is to calculate bond interest based on the closing bond balance at the end of each day. The interest is then accrued and added to the bond statement, usually on the last day of the month. A difference in methodology therefore exists between the method that is used by most financial institutions when allocating interest to a bond statement and the typical methodology that is used in amortization table calculations.
An amortization table calculates interest based on the repayment periods that are specified and in most cases it therefore means that a calendar year is split into 12 interest periods. There could therefore potentially be a difference between the interest that is charged by financial institutions and the interest that is calculated by using a standard amortization table. Another factor to consider is that financial institutions usually base their interest calculations on a 365 day year. This will also result in a discrepancy because most bonds will be affected by more than one leap year. The financial institutions will however charge interest on the 29th day of February in a leap year and it therefore results in another discrepancy.
Obviously this methodology would never have been followed by financial institutions if the resulting discrepancies were significant and could result in their customers being dissatisfied. Refer to the summary sheet for a moment - the first three columns represent the summarized findings from the amortization table and the next three columns represent the findings from the bond sheet. You will notice that the interest difference is minimal and also that this difference will change when different bond starting dates are used on the bond sheet. This can be attributed to using a 365 day year and the relative position of each month in relation to a leap year month. The interest differences for the entire leap year cycle have been listed below the summary table and a chart has been included in a separate sheet (intdiff sheet).
Our findings at this stage is therefore that even though banks charge interest by using a different methodology than what is used in an amortization table, these differences are minimal and home owners should not be concerned about this issue even though we do recommend reviewing your bond statements in detail! We based the calculations on the bond sheet on a bond repayment date on the first of every calendar month. You will therefore notice that the debit order / payment amount is deducted from the outstanding balance on the 1st of every calendar month. Also note that the difference between this amount and the monthly interest represents the capital that is repaid on the bond on a monthly basis.
Part of the reason why we completed this case study is that we suspected that a home owner would pay more interest if financial institutions calculate bond interest on a daily basis and this method of calculation is not in line with the methodology that is used when calculating monthly bond repayment amounts. Refer to the bond2 sheet. The only difference between the bond statement calculation on this sheet and the calculation on the bond sheet is that we provide the facility to change the repayment date and incorporate this date into the daily calculation of interest. You will therefore notice that the repayment date cell is highlighted in yellow and can therefore be changed to any repayment date.
If the bond repayment date is not on the 1st day of a calendar month, it will basically result in the financial institution charging additional interest from the 1st day of the month to the date of the actual repayment based on the amount of capital that is still outstanding on the bond. A later repayment date cannot be taken into account when the monthly required bond repayment is calculated and it therefore means that the capital amount that is repaid on a monthly basis will be less than what it is supposed to be. The outstanding bond amount will therefore be repaid over a longer period and the interest charges will therefore also be higher.
From the amortization table based calculations, you will notice that a capital balance will remain outstanding at the end of the bond period which is reflective of the additional interest being charged and the capital that is repaid over a slightly longer period. Refer to the summary sheet - the last four columns relate to these calculations and the total of the last column represents the additional interest that is incurred. In this example, the effective interest rate associated with a monthly repayment date of the 10th of each month is 0.40% more than the bond interest rate that is specified by the financial institution (this interest rate premium will be less if a lower interest rate than the 15% that we used in our case study is applied in the calculation template).
Our conclusion is therefore that even though there is cash flow benefits that can be derived from postponing a monthly bond repayment, home owners should realise that it could result in a higher effective interest rate being applicable over the bond period. We therefore recommend that monthly bond repayments are scheduled as close to the start of a calendar month as possible in order to avoid additional interest charges.
Note: If bond repayments are not scheduled at the start of a calendar month, it will not necessarily mean that there will be an amount outstanding at the end of the bond period because the required monthly bond repayments are recalculated after each interest rate amendment. These amendments usually occur when the prime lending rate is adjusted by the Reserve Bank. The amended monthly bond repayment is calculated based on the outstanding capital balance on the date of the interest rate change and the effect of the additional interest is included in this calculation. The additional interest charges are therefore less apparent.
We highly recommend using our bond statement template to recalculate the amounts on your bond statement or to produce your own bond statement calculations. The calculation methodology that is applied in this template is the same as the methodology that is applied by most financial institutions and should therefore enhance your understanding of the interest calculation methodology that is applied by most financial institutions!