When it comes to choosing a home loan, one of the big decisions to make is what type of interest rate best fits your needs. Most lenders offer fixed rates, variable rates or a combination of both - sometimes called a split rate.
There are risks and benefits to each, and making a decision comes down to what you’re trying to achieve and what you feel most comfortable with.
A fixed-rate loan is one where the interest rate is set for an initial period, usually for terms ranging from one through to five years. This means that when your loan provider changes their home loan rates, it has no effect on your interest rate or repayments, at least during the fixed rate term. This is beneficial if interest rates rise but can also mean you end up paying a higher rate if they fall.
A fixed rate is popular for people who need to know exactly what they are going to pay on a monthly basis. It allows you to budget accurately and provides protection when interest rates are rising. On the other hand, fixed rate loans tend to be more restrictive when it comes to other features such as making extra payments, re-drawing or paying off your loan. With many fixed rate loans, these features either don’t exist or may trigger a break cost fee. If you sell your property during a fixed rate period, you may be up for very substantial break costs if rates have moved in the wrong direction.
A variable interest rate is one where the interest rate varies over time. A misconception is that variable rates only change in line with the official cash rate set by the Reserve Bank. Unfortunately, this is not the case, variable rates can change outside of RBA rate changes. So, when rates go up, so may your repayments. However, if they go down, you may get the benefit of a lower repayment. If you maintain your repayments at the same level you may enjoy the benefit of repaying your loan faster than scheduled.
Variable rate loans also tend to have more flexibility around other features such as extra repayments, redraw facilities, offset accounts and repayment holidays.
Rather than putting yourself firmly in one camp or the other, many lenders allow you to fix a certain portion of your loan - and keep the other portion variable. For instance, you may want to fix 50% of your loan, and keep the other 50% to help you manage risk if interest rates go up.
Keeping some of your loan variable allows you to make extra payments when you like – as much as you like on the variable rate loan component – so you retain some flexibility.
Fixing the other portion means you have the comfort that the repayment won’t change for the fixed term you choose – and this can be good for household budgeting, particularly if you can lock in at a low rate.
Get the right advice
When it comes to your mortgage, the most important thing is that you choose one that suits your personal situation.
If you’re interested in learning more, why not have a no-obligation, free chat with a Yellow Brick Road adviser, who can point you in the right direction?
Contact us today on 1800 927 927.