Fixed versus variable home loan: Which is right for you?
Fixed rates offer more certainty because repayments don't change. But you can repay a variable rate faster and these loans tend to have more competitive interest rates.
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There are two types of home loan interest rate, variable and fixed. They work slightly differently:
- Variable interest rates can change at any time (up or down) and tend to offer slightly lower rates and more repayment flexibility.
- Fixed interest rates cannot go up (or down) for the fixed period (usually 1-5 years) but often have more fees and less flexibility.
Most Australian borrowers go for variable rate loans. Most of the time, these rates are lower than fixed rates (although in the last few years some fixed rates were lower). And their flexibility is important. Variable rate loans are much more likely to allow you to make extra repayments, letting you get out of debt faster. If you want to exit or refinance a fixed rate loan, you may get hit with some big fees.
But for a borrower who wants to know exactly what their repayments will be and lock in a good deal right now, fixing is definitely a strategy to consider.
Variable versus fixed interest rates: what's the difference?
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When the fixed period on a home loan ends, it reverts to a variable rate. As most home loans have 30-year terms, even if you do fix your rate for a few years, most of your loan will end up being variable anyway.
Which rate type is right for you?
The real question is what do you want from your home loan. This helps you decide which rate type suits you best. Here are some examples to help you think about your own situation.
- I want to know exactly what my repayments are each month. You might want to go with a fixed rate loan. With the certainty of an unchanging rate you can budget safe in the knowledge that your repayments won't vary. This means you can basically forget about your home loan for the fixed period.
- I want the lowest possible rate and I'm happy to switch lenders. Go with a variable loan (probably). Variable rates are usually more competitive than fixed rates, although that's not always the case. But if you're a deal hunter who's always after a lower rate and is happy to compare and refinance regularly, then a variable mortgage probably gives you more options and is easier to refinance.
- I want to repay my loan as quickly as possible. In this case you want the lowest interest rate and a mortgage which allows for extra repayments. This is more likely a variable rate but some fixed rate loans allow extra repayments too.
- I may need to refinance my loan soon or sell my property. If you think you're likely to exit a home loan soon, either by repaying it, selling the house or refinancing for some other reason, you probably want a variable rate loan. This is because a fixed rate loan has break costs that can run to thousands of dollars.
If you still can't decide which rate type is right for you, there's a third option.
The third option: Split rates
If you really like the idea of fixing your interest rate, but you don't want to lose the flexible features available on your variable loan, you can choose to split your home loan. A split rate home loan is when you divide your loan into two (or more) portions; one locked into a fixed rate and the other variable.
This lets you enjoy some of the advantages of both rate types at the same time.