Today’s low home loan rates and climbing property values have convinced many people to purchase their next home. Whether you are a first time home buyer, planning a move or looking to refinance your current home loan to save money, you’ll want to understand the three types of home loans available to you.
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A fixed rate home loan means that your home loan is locked in at a certain, unchangeable interest rate. This can be comforting in times of fluctuating markets, because even if the cash rate rises, your payments won’t change. You’ll always have the same amount due each month until the end of the fixed rate term. This makes budgeting easier, and can provide reassuring stability to borrowers.
Fixed terms can last between 1 and 5 years, and will default back to a variable rate at the end of the period. A borrower can choose to enter another fixed rate period, but the interest rate will likely be different.
The downside of fixed home loans is that you typically cannot make extra repayments, so if you get a pay rise or a windfall, you likely cannot pay off your home faster to save money. However, some lenders do allow for extra repayments on fixed rate loans, but these will usually be limited to a certain annual amount.
Unlike variable rate mortgages, you can’t easily refinance a fixed rate loan before the end of the fixed period. If you do violate your fixed rate loan terms and conditions by overpaying, paying off your loan early, or refinancing, you could be charged break costs.
Another potential disadvantage of a fixed rate home loan is that it is fixed no matter what. If rates drop substantially, the only way you’ll benefit is to go through the hassle and expense of refinancing.
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Variable rate loans have an interest rate that is susceptible to changes at any time. This greatly influences your monthly repayment amount. If your lender increases interest rates, your repayments will go up, and vice versa.
Unlike fixed rate mortgages, variable rate mortgages typically offer a lot more flexibility. You can make unlimited additional repayments, add on loan features like an offset account or redraw facility, and refinance with (relative) ease. The ability to make extra repayments has the potential to shave years off your home loan and save thousands of dollars in interest in the long run.
But, you do have to deal with interest rate fluctuations which can cause mortgage stress, and changes to your repayment amount. Risk is one of the biggest downsides to variable interest rates.
The cash rate is the factor that most influences interest rate fluctuations. It is set by the Reserve Bank of Australia on the first Tuesday of every month (except in January). Because it influences business costs for lenders, it can lead them to raise or lower interest rates.
It’s important to remember that lenders can alter their interest rates independent of RBA cash rate decisions. For example, lenders may cite rising cost of funding as a reason for the increase. Alternatively, they may follow the lead of other lenders. So, if other lenders are reducing their rates, a lender may choose to do the same in order to remain competitive and attract customers.
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A split rate home loan is really a combination of two loans, one fixed and one variable. This combination lets home buyers enjoy the benefits of both types of loans. One part of your loan will remain fixed and unchanged by rate hikes, while the other part can take advantage of rate fluctuations if rates continue to drop.
The main drawback of a split loan is that you may still be ineligible to pay back your loan early. The variable portion of the loan will allow you to make extra repayments to reduce your loan rate, but the fixed side will still impose penalties for early repayments.
Fixed rate, variable rate, and split loans all have pros and cons, and what works best for you will depend on your circumstances. Is the stability of a fixed rate your most important concern, or do you want the option to make additional payments to your home loan as your income rises?
To discuss your home loan needs with an expert, contact the Home Loan Specialists here at Lendi. We can help you find the loan that fits your financial and personal needs.
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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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