Mortgage: how to (properly) use a graduated repayment loan?

When a property project emerges within a household, the primary concern (and sometimes the main obstacle) will be to finance it. The necessary funds may be lacking, or the debt-to-income ratio based on existing credits may leave insufficient room for manoeuvre.

The** graduated repayment loan**, or smoothed loan, can constitute a viable solution to complete your project without revolutionising your financial organisation. However, it does present certain limitations to which you should remain attentive to avoid finding yourself in a difficult situation. Here is an overview of the principle and how the graduated repayment loan works.

What is the principle of a graduated repayment loan?

The graduated repayment loan is both simple in principle and complex in its implementation. It is a credit arrangement that works in stages, meaning that repayment is divided into variable time periods, during which the monthly payments applicable are different.

The monthly payment may vary several times during the credit, upwards or downwards, depending on the subscriber’s financial capacity and, most often, on their other ongoing credits.

If this type of credit is also called a “smoothed loan”, it is because the bank is also able to smooth the overall monthly payment so that the borrower, despite the varying monthly payment stages of their different loans, repays the same monthly payment throughout the duration of the (overall) credit and thus ensures comfort in their budget management.

Why take out such a mortgage?

Several scenarios may arise, depending on the borrower’s situation. If the aim is always to optimise financing and control the debt-to-income ratio, the parallel goal sought is not always identical.

Being able to acquire a property

The typical user of this type of solution is a property buyer already subject to loan repayment, whose borrowing capacity would normally be insufficient to enable a new project: they can therefore take out a smoothed loan to repay, over the remaining term of the first loan, a monthly payment amount lower than normal and corresponding to what they are entitled to repay given the debt rules.

At the end of the double repayment period (or more), the monthly payments on the smoothed loan can increase to accelerate the repayment of this final loan.

Complementing assisted loans

First-time buyers in particular, but generally all property buyers who may be entitled to assisted loans, will often find benefit in the graduated repayment loan. Whether they obtain a zero-interest loan (PTZ), an employer loan or a savings-based loan (PEL), the smoothed loan will complement the necessary remaining borrowing, while modulating monthly payments over time.

At the start of the project, the monthly payment will thus be reduced, to supplement that of the assisted loan until reaching the subscriber’s repayment capacity. As the repayment term for assisted loans is generally shorter than that of conventional mortgages, a time will come when it will be pertinent to increase the monthly payment to repay the smoothed loan more quickly.

Reducing the cost of credit

Based on the same principle of combining loans, taking out two bank loans simultaneously with different terms and repayment conditions is useful for reducing the overall cost of the investment.

The first loan can, for example, be taken out over a 10-year term at an advantageous rate of 1%. The second loan will be calculated over a longer term of 25 years, at a rate of 1.5%. The loan smoothing will then make it possible to obtain constant monthly payments throughout the term of the borrowing, while reducing the cost of interest and borrower insurance.

Risks involved and mandatory warnings

In practice, for the majority of smoothed loans taken out, it concerns borrowers who wish to take out a loan currently beyond their means, in anticipation of higher expected financial capacity. The risk is obvious: the financial situation may not improve and the increasing monthly payments may not be met.

The danger is further heightened when the reduced monthly payments at the start of the loan do not cover the amount of interest which, for its part, is at its highest during the first years. The result is that unpaid interest increases the overall capital owed, aggravating the borrower’s debt, for which they may not be prepared.

It is not so much the bank that takes a risk – the loan remaining covered by insurance – as the subscriber who is the first endangered, being quickly subjected to recovery procedures incurring various additional fees and ultimately, threatened with over-indebtedness.

The Court of Cassation (Cass. Civ 1, 25.5.2022, U 21-10.635) thus considers that a graduated repayment loan, while providing certain cash flow advantages, also presents dangers of which the subscriber must be fully aware. It then falls upon professional credit providers to give clear information and warn their clients against the risk of default.

Through this ruling, justice requires the credit intermediary to provide a mandatory warning and the lender to deliver information, without which their liability may be engaged.

Who to contact to take out a smoothed loan?

Two scenarios apply. You may contact, if it concerns taking out a second loan (or more), the institution that granted you the previous loan. In this case, the bank concerned will handle the arrangement and smoothing internally, according to your request.

A nuance applies if you wish to proceed with another bank: this will buy back your previous credit, as smoothing logically can only be carried out with a set of loans managed by the same lender. The Lagarde Law then provides clarification: if some of the loans to be bought back are consumer loans, they must represent less than 60% of the total buyback for the mortgage rate to apply. Beyond this, the consumer credit rate will remain applicable.

Taking out a graduated repayment loan assumes having a clear vision of your long-term financial situation. Giving in to the temptation of a property acquisition nevertheless beyond your means should not be the reason for such a subscription as hopes for income improvement are generally uncertain. A well-structured arrangement however, can enable an intelligent spreading of debt and even, in some cases, making savings.

If you are considering using a graduated repayment loan, we strongly encourage you to first contact a professional credit intermediary, who will be able to identify all the parameters of your project and guide you towards the best possible solution.