When deciding how to choose the best home loan, the most fundamental choice for borrowers is whether to opt for a fixed rate loan option or a mortgage in the form of a variable home loan. Both selections have their potential advantages and disadvantages and making the best choice is largely a function of which factors you value the most.
Fixed Rate Loans
With a fixed rate home loan, you lock in a guaranteed rate of interest for a known length of time. Most of these mortgages fix the interest rate for one to five years, with three years being the most popular option, but lengthier fixed terms of ten and fifteen years are available from some lenders.
With a fixed rate mortgage, you can generally expect to pay a higher interest rate at the time the loan is agreed upon, but if rates subsequently go up, you will find yourself paying less than the market value. Of course if rates decline, you won’t be able to realize the benefit of the drop without paying some kind of a penalty for refinancing before the fixed rate term is up. Some fixed rate products allow for early repayment without penalty, but not all of them do, so it’s important to investigate this provision of any fixed rate mortgage.
The main benefit to the fixed rate option is the peace of mind that comes with knowing exactly what your repayment will be for a given length of time.
Variable Rate Loans
With a variable rate loan, the rate of interest on the mortgage is established with the benchmark financial index rate set by the Reserve Bank of Australia and augmented by a certain amount—an additional half percentage point, for instance. That rate is then adjusted using the same method on a pre-set schedule for the duration of the loan—for example, after the first year and then every three or four years subsequently.
Variable rate loans typically are more flexible in their repayment terms than fixed rate options and they almost always involve a lower introductory interest rate; these are the principle benefits of the variable rate option. In fact, over the past 20 years, variable rate loans have almost always meant lower interest rates paid by borrowers than fixed rate alternatives. The main downside is the uncertainty of knowing what your future repayments will be. If rates increase, your payments will as well.
This post was written by Tomorrow Finance – An Australian mortgage comparison website.