Interest rates are at their lowest since late 2009, and it’s prompting many home owners to consider locking in their loan rate. If you already have a home loan, chances are, it has a variable - or ‘floating’, rate that moves up or down over time.
Exactly when, and by how much variable rates move, depends on changes to the Reserve Bank’s official cash rate as well as developments in global money markets that impact a lender’s cost of funding. The key thing for home owners is that a variable rate brings the likelihood that your rate – and monthly repayments, will rise or fall over time. A simple way to overcome this uncertainty is by locking in to a fixed rate.
What does ‘fixed’ mean?
As the name suggests, a fixed rate will remain the same for a specified term - usually one to five years, regardless of how market rates move. Because the rate is constant, so too are your regular repayments. Once the fixed term ends, borrowers have the option to lock in their rate for another period (at the prevailing fixed rate), otherwise the loan simply reverts back to the lender’s standard variable rate.
Fixing becomes more popular
While the majority of borrowers choose a variable rate loan, government figures¹ show that over the past year between 10% and 15% of home owners opted for a fixed rate. In January 2013, 12.2% of borrowers locked in their rate, up from 11.5% a year ago. Part of this increase can be attributed to the current crop of highly competitive fixed rates. As the global economy strengthens, there is a possibility interest rates won’t go much lower, which could make now the time to fix.
Weighing up the benefits
Along with a low rate and protection from possible future rate hikes, fixing your loan brings certainty of repayments. This can make your mortgage easier to budget for. But it’s not all beer and skittles with a fixed rate. You won’t benefit from any rate falls that may occur during the fixed term. So you run the risk of paying higher repayments than if you’d stayed with a variable rate.
If this happens, most lenders will let you switch back to a variable rate before the fixed term lapses but that could mean facing ‘break charges’. It’s a cost that can run into several thousand dollars depending on how rates have moved, often making it uneconomic to bail out of a fixed rate prematurely.
Remember that there are benefits and pitfalls with both fixed rate loans and variable rate loans:
• Variable rate loans tend to be more flexible, with more features (e.g. redraw facility, ability to make extra payments); fixed rate loans typically do not. However a few lenders have some flexible features with their fixed rate loans – ask us about the ones that do.
• Fixed rate loans have predictable repayment amounts over the fixed term, variable rate loans do not.
• If you get out of (“break”) a fixed rate term, you will usually be charged significant extra costs.
Happily there is a way to combine the certainty of repayments of a fixed rate with the flexibility of a variable rate loan and that’s by splitting your mortgage between fixed and variable rate components. Have a look at our split rate calculator here.
It can give you the best of both worlds but the important thing is to speak with us to determine what works best – fixed or variable rate, for your circumstances.
¹ ABS Cat. 5609, Housing Finance Australia, Jan 2013, issued 13 March 2013 at http://www.ausstats.abs.gov.au/ausstats/meisubs.nsf/0/84742E57C16E7495CA257B2C000F85FA/$File/56090_jan%202013.pdf