Amortization reduces your mortgage debt. You have the choice between direct and indirect amortization. The direct variant involves regular repayments to a lender. In the case of indirect amortization, the repayments are made to a pledged retirement savings account. We explain the pros and cons of these two variants.
If you buy a property in Switzerland and take out a mortgage, a maximum of two thirds of the property’s value can be borrowed as a first mortgage. This amount doesn’t have to be amortized if evidence of affordability has been provided. However, there’s an amortization obligation on the second mortgage. You need this second mortgage only if you wish to or have to borrow over two thirds of the property’s value from the financial institution.
The amount borrowed as a second mortgage must be fully repaid within 15 years or by pension age at the latest. The reason for that is affordability: income usually decreases during retirement. However, affordability must still be guaranteed, even with less income.
You can also amortize more than is required by law: if you’d like to gradually reduce your mortgage debt or pay it off in full, you can do so through voluntary amortization.
The second mortgage can be amortized directly or indirectly. That means you make regular payments to the lender and reduce your mortgage debt by the amortization amount. “Indirectly” means paying into a retirement solution under pillar 3a, which is used only when this pillar is withdrawn to pay off the mortgage debt.
The first mortgage can be amortized directly or indirectly. These two forms can also be mixed: you can withdraw the retirement funds saved through indirect amortization to pay off your mortgage directly. This avoids withdrawing all the retirement capital in one go and having to pay tax on it.
With direct amortization, you repay the mortgage directly to the lender in regular intervals. This continually reduces your mortgage debt.
With direct amortization, the mortgage amount is reduced after every repayment. This means you pay less mortgage interest each time. So not only does your debt come down, but you also cut your monthly interest costs.
Under the indirect amortization option, the repayments are not made to the lender, but instead initially to a pledged retirement savings account. This could be a pillar 3a retirement savings account or fund-linked life insurance. The lender uses this credit as collateral. Indirect and direct amortization via pillars 3a or 3b are available only for owner-occupied properties. At the latest when the mandatory amortization falls due (after 15 years or upon retirement), the retirement capital saved is paid out and must be used all in one go to pay off the mortgage debt. It is also liable for tax.
In the case of indirect amortization, your mortgage debt and the interest paid on it always remain at the same level. You can deduct the interest, which remains the same, and pension fund contributions from your taxable income, saving a significant amount on tax. If you couldn’t otherwise afford a private pension (pillar 3a), take advantage of the tax allowances permitted under this option. The additional collateral of the retirement capital means you benefit from attractive interest rate conditions on your mortgage.
There are many different factors involved in amortization planning. Besides tax optimization aspects, there’s also your personal approach to investment. Consider these questions, for example:
There are also psychological factors: for some people, constantly reducing their debt and eventually paying it off in full is more important for their peace of mind than optimizing their finances and tax liability.
To buy a property, you need a deposit of at least 20 percent. A mortgage can be used to finance a maximum of 80 percent of the purchase, but only around 67 percent in the form of a first mortgage. Only the amortization of the second mortgage – which can make up a maximum of 13 percent of the purchase price (or market value) – is required by law. If you borrow 100,000 francs in the form of a second mortgage, you have to repay that amount within 15 years (or by retirement age at the latest). This means that in addition to the mortgage interest agreed, you also have to pay annual amortization of 6,666.65 francs.
3 x (CHF 40,000 + CHF 8,700 + CHF 10,000) = CHF 176,100
In this variant, the mortgage debt always remains the same, which means you don’t reduce your debt level. The mortgage interest charges always remain at the same level, too. Another downside is any interest rate fluctuations in the private retirement savings account (pillar 3a). Payments into the 3rd pillar are limited to the maximum amount set by law. If a higher level of amortization is required, a combination of direct and indirect amortization is recommended.
With indirect amortization, you can deduct all mortgage interest from your taxable income. Your capital and interest income in the retirement planning account used for indirect amortization is also exempt from tax. The taxes don’t have to be paid until the repayment of the mortgage debt – and even then at a reduced tax rate.
From a tax perspective, reducing mortgage debt is generally unfavourable. You can deduct your mortgage interest in full from your income. If your interest costs fall, your tax liability rises. If you opt for direct amortization, you may not be able to afford contributions to a private retirement savings account (pillar 3a) and won’t enjoy the tax benefits this provides.
