Is a fixed or variable home loan better?

The best choice between a fixed or variable home loan interest rate may depend on your personal and financial situation, as well as your home loan goals. There are advantages and disadvantages to fixed and variable interest rates, which could affect the value that different home loans offer you.

Variable rate home loans

The majority of home loans have a variable interest rate. This means the bank or mortgage lender could choose to increase or decrease the interest you’ll pay on your loan at any time. This could increase or decrease your home loan repayments from month to month, affecting your household budget.

Banks and lenders choose to cut or hike variable rates based on a range of factors, from the current national cash rate set by the Reserve Bank of Australia (RBA), to the cost of overseas funding, to the performance of investments and the national and international economy. Basically, the more it costs a lender to lend you money, the more likely they are to increase interest rates to make up these costs, and vice versa.

If your rate is cut, you could pay less for your home loan each month, allowing you to spend that money elsewhere. Alternatively, you could choose to keep your repayments the same and put the extra money towards reducing your mortgage principal, bringing you closer to paying off your property early so you’re charged less total interest.

But if your interest rate is increased, so will your home loan repayments. A sustained pattern of regular interest rate rises could see your repayments increase beyond what your household budget can comfortably handle. You may be able to refinance onto a lower rate with another lender, depending on your personal and financial situation.

The flexibility of variable interest rates often cuts both ways. Variable rate home loans are typically more likely to offer options for flexible repayments, such as unlimited extra repayments, free unlimited redraws, and an offset account. While these extra bells and whistles can mean paying higher rates and/or fees than a “vanilla” or “no-frills” home loan, careful use of these features and benefits could let you better manage your home loan repayments and potentially pay less in interest on your property.

Fixed rate home loans

Some lenders offer the chance to fix your home loan interest rate for a predetermined length of time; typically between 1 and 5 years, though some lenders will let you fix for as long as 10 years. This means you’ll be charged the same amount of interest on each repayment over this period, keeping the monthly cost of your home loan consistent. No matter whether your lender hikes or cuts its variable rates, your home loan repayments will remain the same, for simpler, more straightforward budgeting.

Fixed rate loans can be attractive to borrowers who want to keep their repayments manageable, as you’ll be insulated from your interest rate rises for a limited time. This can give you a chance to build up some equity in your property, so even if you revert to a higher variable rate on the expiry of your fixed rate term, you may have the option of refinancing available.

One of the biggest risks of a fixed rate home loan is a potential lack of flexibility. Agreeing to pay interest at a fixed rate for a limited time often means giving up options to make extra repayments, make redraws on your loan, or use an offset account. Additionally, if you find yourself wanting to refinance your home loan (such as if lenders have cut variable rates to below your fixed rate, and you want to benefit from these interest savings), you’ll need to pay break costs to get out of the fixed term early, which could reduce the overall value of refinancing your loan.

And once your fixed rate term comes to an end, your loan will revert to a variable interest rate, which may be higher than what you were paying before. This could lead to some sudden bill shock if you don’t budget carefully.

So which is better; fixed or variable?

Ultimately, the answer to the question of whether to fix your home loan interest rate or not comes down to you, your financial situation, and your personal goals.

If you’d prefer to keep your repayments steady for a limited time, a fixed rate loan may suit your needs. But if you’d prefer more flexibility around how you pay your mortgage, you may decide on a variable rate home loan.

There’s also the option to split your home loan, so that interest is charged at a fixed rate on a portion of your mortgage principal, and at a variable rate on the remining portion. This could allow you to enjoy the best of both worlds, with some flexibility and some consistency in your repayments.

If you’re unsure of which home loan option may best suit your budget and goals, consider contacting a mortgage broker for more personal advice.

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