A home loan is one the most flexible consumer loans available to help working individuals procure and maintain assets during the course of their careers. It can be used to purchase a new property, renovate an old home, and refinance an existing loan. There are different home loan products as well that borrowers can choose from, depending on their needs. Two of them are fixed home loan and variable home loan.
Now, the old fixed vs variable home loan debate has been discussed many times already, but many are still unfamiliar with the differences between the two. For those who are new to home loan financing and those who need some refreshers, these are the information on fixed and variable home loans that you should know.
The key difference between fixed and variable home loans is the interest rate imposed on each one. Fixed home loans have an interest rate that is set for a given period, usually from one to five years. The rate will remain the same until the end of the loan term. Some fixed home loans, however, may switch to a variable rate after a specific fixed-rate period.
On the other hand, variable home loans have different interest rates throughout the loan duration, depending on the market interest rate changes. The rate may go up or down without the control of the borrower, which can be both an advantage and disadvantage.
With the same interest rate throughout the fixed home loan, borrowers can expect the same monthly repayment until the completion of the loan. Because your loan repayments will not be affected even if the market rate goes up, it will be much easier to create a budget and build your personal savings, which is not the case for variable home loans. Having a varying rate means you’ll have higher monthly bills at times, which can be challenging and stressful for those with unstable sources of income, and people with limited budget.
However, during the periods when the market rate is significantly lower, borrowers with the variable home loan will save more money compared to those who opted for fixed rates.
Other Loan Features
When choosing a home loan product, another consideration is the availability of extra loan features like extra repayments (capability to make advance payments), prepayments (paying off the entire loan amount early), and redraw facility (withdrawing money from the extra repayments). These are usually just available with a variable home loan. Although, some fixed home loans have the extra repayment and prepayment features but with a corresponding penalty fee.
Switching and Refinancing Home Loans
During the repayment period, it is possible to find a better home loan deal elsewhere. You may also want to switch from fixed to a variable rate, or vice-versa. Both of these can only be done with a variable home loan because fixed-rate loans have limited features. Again, some lenders may offer early termination or completion of the loan, but there will be break fees charged.
Home Loan Offset Account
Another feature that is only available with the variable home loans is creating an offset account, which can help borrowers save more money on interest. An offset account is a transaction or savings account that is connected to your home loan. The difference between the account balance and loan balance will be computed, and the interest will be calculated based on the result.
The resulting interest is significantly smaller compared to the interest computed against the full loan balance. The huge savings from interest, however, is not achievable with a fixed home loan where connecting an offset account is not allowed.
What to Choose Between the Two
Both fixed and variable home loans have pros and cons that you have to weigh in according to your financial capability and personal goals. If you currently have a humble income and is working on a fair budget, then it would be better to get a fixed home loan with an option to go variable after a given period. On the other hand, if your income can take a bit of risk, then a variable home loan is the best choice because of all the benefits and savings you can get. For stress-free home finance, you can also choose home loan broker, who handle everything on your behalf.
You also have an option to split your loan into half-fixed and half-variable to enjoy the benefits of both. Just remember to do your research well, especially on the current market interest rate trend, because your decision today will affect your finances in the future.