Fixed vs variable rates
Let’s begin with an understanding of the basics…
A fixed-rate loan has the same interest rate for the entirety of the borrowing period, whereas a variable rate loan has an interest rate that changes over time.
Fixed-rate loan periods are generally between one and five years, however some lenders will offer up to 10 years.
At the end of the fixed loan period, you can decide whether to fix the loan again for another period of time at the current market rates or convert the loan to a variable interest rate for the remaining time left of the loan.
In general, if a lender expects the cash rate to rise, the fixed rate will usually be higher than the variable rate; on the other hand, if the expectation is for the cash rate to fall, the fixed rate will tend to be lower than the current variable rate.
When a borrower fixes the interest rate on their home loan, they are usually anticipating that the variable rate will rise above the rates which they have locked in.
Pros and cons of fixed rates
Pros:
- Repayments do not rise if the official interest rate rises- You will continue to pay your fixed rate and not the higher rate.
- Provides peace of mind for borrowers concerned about rate rises– It is hard to predict where interest rates will go. With a fixed-rate loan you won’t need to worry (at least for the fixed-rate term).
- Allows more precise budgeting– you know what you need to pay and when, allowing you to more accurately budget and plan.
Cons:
- Repayments do not fall if rates fall- You will still have to pay the higher fixed rate for the fixed-rate term
- Allows only limited additional payments– Most lenders will allow you to make additional repayments, however, they will likely be restricted (somewhere around 25k per over the loan period)
- Expensive break costs- If you pay back the loan before the fixed term is finished. This can happen when a property is sold or when refinancing
- No offset account- If you have extra money that could be used to pay back your loan, you won’t be able to put the money in an offset account and enjoy the interest repayment deduction
Pros and cons of variable rates
Pros:
- Product choices- not all variable rate products are the same. They vary from your basic variable home loan which offers low fees and limited features/extras to a full features home loan with extras such as offset account(s) and redraw facilities. Some lenders also offer packages whereby other products like credit cards and savings accounts can be as the name suggests “bundled” and in return, the lender offers discounted interest rates and fees.
- No exit fees- generally, you won’t pay any exit fees if you pay your loan out if full before the specified end date. This is advantageous, particularly when looking at refinancing and/or using equity in your property for other things.
- Additional features- such as offset accounts, redraw facilities and the ability to make additional repayments or pay out the loan in full can be beneficial.
Cons:
- Repayment uncertainty- It is difficult to predict where interest rates will go. Regular changes in interest rates will mean that your repayment amount will also change regularly. This can make it difficult to budget and plan.
- Repayments will rise if interest rates rise- Increases in interest rates and your repayments can put pressure on your ability to make your repayments in full and on time.
Can’t decide?
While fixed-rate loans and variable rate loans each have their pros and cons, the good news is you don’t need to be “all in” for fixed or “all in for” variable. In fact- many of our clients and Australians across the country opt for a split loan structure meaning that a portion is fixed, and a portion is variable. This approach offers the best of both worlds.
As always, we are here to help- Book a free consultation to find out more now
