With interest rates at a record low, you might be wondering if now’s the right time to fix your home loan rate.
Understanding the difference between fixed and variable rates is one of the most important steps in your home buying journey. That is why we’ve prepared this guide, which could help you gain some insights into the pros and cons of each type of loan so you can work out what is right for your situation.
Is a fixed rate home loan right for me?
A fixed rate home loan simply means that you ‘fix’ the interest rate at whatever the rate is at the time of your application for a set period (usually 1, 3 or 5 years). Your interest rate will stay the same over that period, regardless of the rate changes in the market.
Advantages of a fixed rate loan
Many borrowers, especially first home buyers, prefer to fix their interest rate.
With a fixed rate, you have certainty with repayments during the fixed rate period you’ve selected. You’ll find a fixed rate and strict repayment schedule makes it easier to budget.
Plus, you’ll have peace of mind that you won’t face any surprises should interest rates rise during your fixed rate term.
Downsides of a fixed rate loan
Fixing your loan does have its downsides.
Apart from not being able to take advantage of a rate decrease, you might not have access to extra features like redraw or be able to make extra repayments to help pay your loan faster (or your lender might limit the amount). That means your loan term could be longer so you’d pay more interest overall.
If you choose to refinance your loan to take advantage of a rate drop, you will probably have to pay ‘break’ fees or ‘exit’ fees.
If you want certainty in your loan repayments and don’t need extra loan features, a fixed rate loan might suit your needs.
Is a variable rate home loan right for me?
A variable rate loan is a loan with interest rates that are subject to change throughout the 25 or 30 year term of your loan, usually following the official cash rate changes set by the Reserve Bank of Australia (RBA) or if your lender needs to make some adjustments.
Advantages of a variable rate loan
With this type of loan, you’ll get more features like redraw and offset accounts.
You’ll also benefit if interest rates drop –your repayments will go down accordingly, saving money on the life of your loan. Variable loans also give you the flexibility to make extra repayments, which means you could pay off the loan sooner and further reduce your overall interest payments.
Plus, with a variable loan it’s usually easier to refinance switch your loan later to one with a more competitive rate while avoiding paying high break fees.
Downsides of a variable rate loan
Yes, you get some great features but there are downsides too. Should interest rates rise, you might find it more challenging to make repayments. This could put you under financial stress and make it harder for you to budget.
Lenders are required to apply a ‘stress test’ to check if their customers could manage repayments if interest rates rise. Under the new standards set by the Australian Prudential Regulation Authority (APRA), Australian Deposit-taking institutions (ADIs) can set their own buffer as long as they ensure customers can afford repayments at interest rates at least 2.5% higher than their current arrangement.¹
While this recent change may make it easier for you to get a mortgage, it’s still important to feel confident that the mortgage you commit to now will still be affordable in the future. You can use our mortgage repayment calculator to find out how a small rate change could affect your monthly or fortnightly repayments and interest payable over the life of the loan.
If you’d like to learn more about variable rate loans click here.
If you want to make extra repayments or have the freedom to refinance switch your loan for a better rate should your personal circumstances change in the future, a variable rate loan might suit you.
What about a split loan?
With a split loan, you get the best of both loan types. In this type of loan, you ‘split’ your loan so part of the loan is fixed and the other part is variable – and you can even choose which portion of your loan is fixed. You are allowed to make additional repayments, so you could pay less interest over the life of your loan. And with part of your loan on a variable rate, you’ll still have access to the extra features like an offset account.
Importantly, you’ll also be a little less stressed if the interest rates rise, as the increase will affect only part of your loan.
If you want the flexibility to make extra repayments and limit the risk of any interest rate changes, a split loan might suit you.
Want to know more about Pepper’s home loan options? Speak to one of our friendly Lending Specialists today on 137 377 or enquire online. Alternatively, speak to an accredited Pepper Money broker for more information. We’re here to help.
This article provides you with factual information only and is not intended to imply any recommendation about any financial product(s) or constitute tax advice. If you require financial or tax advice you should consult a licensed financial or tax adviser. Neither Pepper nor its related bodies, nor their directors, employees or agents accept any responsibility for loss or liability which may arise from accessing or reliance on any of the information contained in this article. For information about whether a Pepper loan may be suitable for you, call Pepper on 13 73 77 or speak to an accredited Pepper Money broker.
All applications are subject to the credit provider’s credit assessment and loan eligibility criteria. Terms, conditions, fees and charges apply. Information provided is factual information only and is not intended to imply any recommendation about any financial product(s) or constitute tax advice. If you require financial or tax advice you should consult a licensed financial or tax adviser.
©Pepper Money Limited ABN 55 094 317 665; AFSL 286655; Australian Credit Licence 286655 (“Pepper”). All rights reserved. Pepper is the servicer of home loans provided by Pepper Finance Corporation Limited ABN 51 094 317 647. Pepper Asset Finance Pty Limited ACN 165 183 317 Australian Credit Licence 458899 is the credit provider for asset finance loans.