Explaining different types of interest rates
With most types of home loans you can choose either a fixed or a floating (or variable) interest rate. Revolving credit home loans and offsetting home loans have a floating interest rate.
Some people will split the amount they borrow between two loans, one with a fixed interest rate and the other with a floating rate.
Fixed interest rate
A fixed interest rate will not change during the period (term) of the fixed rate that you choose. At the end of your fixed interest rate term you can either choose a new one from the rates available at that time, or move to a floating interest rate.
Pros and cons
- You can’t be affected by interest rate increases, so you have the certainty of knowing exactly how much each repayment will be during the fixed term.
- Fixed rates can be lower than the floating rates.
- If the floating rate falls below your fixed rate during the fixed term, you continue to pay the fixed rate.
- You might have to pay an early repayment charge if you want to make extra repayments or pay off the loan faster than initially discussed at the start of a fixed interest rate term.
How to choose the length of your term
- If certainty and security are important to you, or you believe interest rates may go up during the term, then choose a longer term loan.
- If you believe interest rates may go down in the short term, or if you expect to sell your house in the near future, then choose a shorter term loan.
Floating interest rate
A floating interest rate may go up or down as interest rates in the wider market change. You can change to a fixed interest rate at any time, although some types of loans are only available with a floating interest rate.
Pros and cons
- You have the flexibility to make lump sum repayments of any size at any time without penalty.
- If interest rates go down, you can potentially pay off your loan faster by keeping your repayments at the same level.
- As the rate is floating it can go higher than fixed term rates.
- If the interest rate goes up, so will your repayments which could put a squeeze on your budget.