One of the biggest considerations property investors have when buying a new property is whether to get a fixed interest or variable rate mortgage. Both options can be advantageous, depending on on the buyer’s situation, but there are also downsides to both.
In this article we’ll explain the difference between these home loan types and outline the pros and cons to help you come to a decision.
Home loans with a fixed interest rate are generally recommended for investors seeking stability. Fixed interest rates don’t rise and fall, as you ‘lock in’ an interest rate for a period of 1 to 5 years.
Generally, the shorter your fixed period, the lower your interest rate will be. However, you can still find great interest rates for longer fixed periods.
One of the biggest benefits of fixed rate investment home loans is that they are easier to budget for. You’ll know exactly how much your repayments will cost each month. This makes fixed rate home loans a great option for investors looking to sit back, relax and enjoy a stress-free loan experience.
You won’t be worrying about interest rates rising while you’re in your fixed period. The disadvantage to this is that interest rate fluctuations can actually be beneficial — if they’re low.
For example, interest rates are currently at historical lows, due to the 0.25% cash rate. Investors with variable rate mortgages get to make the most of these interest rates. After all, the lower your interest rate, the less you’ll pay over the life of your loan.
Another drawback to fixed rate home loans is that you won’t have access to as many loan features. Loan features, like offset accounts and redraw facilities, are add-ons that can improve your loan experience and save you money.
Find out how much you could save each month.
You may still be able to get certain loan features, but there may be limitations in place. If eligible, an offset account can be a great place to store your extra savings. It’s an account attached to your loan balance where any funds in it offset how much interest you pay. For example, if you owe $300,000 on your home loan, but have $40,000 in an offset account, you only pay interest on $260,000.
Loan features usually come with fees, so you could save if you opt now to use them. Many fixed rate home loans will still allow extra repayments, but these will usually be capped at $10,000, for example. Making extra repayments beyond the limit can result in penalty fees to account for you ‘breaking’ the terms of your loan.
Break fees like this are also charged when investors switch home loans before the end of their fixed term. While it can be tempting to refinance to a new loan with a lower interest rate, or better terms, you need to make sure that break costs won’t outweigh the benefits of doing so.
Check out our summary table outlining the pros and cons of a fixed interest rate:
|Ensures stability throughout your fixed period as you’ll be protected from rising interest rates||Fixed rates are usually higher than variable rates|
|You will know exactly what you owe in repayments each month||If interest rates drop, you won’t benefit|
|Easier to organise around your budget||Limited selection of loan features to add on|
|Can cost less due to fewer loan features||Limit placed on making extra repayments|
|Break costs charged when refinancing before the end of a fixed period|
For investors seeking flexibility with their home loans, a variable interest rate could be the way to go. Variable interest rates fluctuate over time, based on the cash rate set by the Reserve Bank of Australia (RBA). While the cash rate is low, interest rates should also be low.
Unfortunately, if the cash rate increases, your interest rate is likely to follow suit. However, some lenders can be slow or ineffectual at altering interest rates, so you aren’t always guaranteed an interest rate that aligns with the cash rate when on a variable home loan.
Another downside to variable rate home loans is that they can be harder to budget for since your repayment amount can vary month to month.
The great thing about variable rates is that you have the option to make unlimited additional repayments on top of your minimum repayment amount. So, if you have some extra cash, why not put it towards your home loan? The lower your loan balance, the less interest you are charged.
You can even pool your extra repayments into a redraw facility which helps lower the interest you’ll need to pay. For example, by having $20,000 in a redraw facility linked to your $200,000 loan balance, you’ll only be charged interest on $180,000. You can access the funds in your redraw facility when you want, but there are usually withdrawal fees and wait times.
If you want to avoid withdrawal fees, you might prefer an offset account. It operates similarly, but the funds in your offset account don’t reduce your loan balance and the account works like an everyday savings or spending account. However, offset accounts may come with an annual fee.
On the plus side, variable loans are generally easier to refinance. You won’t be charged break fees and you don’t need to wait for a certain amount of time to make the switch. However, refinancing is always best to do once you have at least 20% home equity.
Check out our summary table outlining the pros and cons of a variable interest rate:
|Access to more loan features||Loan features can be costly|
|Enhanced flexibility||Lack of stability|
|Option to make unlimited extra repayments||Risk of significant increases in repayments if interest rates rise|
|Typically easier to refinance||More difficult to budget as your repayment amount will vary|
|Variable interest rates are usually lower than fixed rates|
Undecided between a variable and fixed interest rate? Well, you might be able to get both with a split loan. As the name suggests, a split loan allows you to secure a portion of your home loan with a fixed interest rate, and the other part with a variable interest rate.
This way, you can get the best of both loan types. You don’t need to split the loan 50:50, you can divide it how you like. With a split loan, you can get access to loan features, make extra repayments on the variable portion and your repayments remain stable on the fixed part of the loan.
Whether you’re looking for a fixed, variable or split rate investment home loan, Lendi can help you on your journey. We work with over 35 Australian lenders to offer home loans for every need and situation. Our Home Loan Specialists are on hand to answer your questions and guide you through your home loan application.
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The information in this post is general in nature and should not be considered personal or financial advice. You should always seek professional advice or assistance before making any financial decisions.
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