Should you consider fixing your home loan?
Since early 2008 the Reserve Bank of Australia (RBA) has dropped the cash rate by a whopping total of 425 basis points—or 4.25 per cent. The cash rate reductions have flowed through to consumers from the banks and non-bank lenders in the form of lower interest rates, which have led to the most affordable home loans in decades.
This was great news for mortgage holders, and it also presented a terrific opportunity for new home buyers to finally enter the market. However, on 7 October 2009, the RBA announced a cash rate rise of 25 basis points (0.25 per cent), which appears to signal the beginning of a new tightening cash rate cycle.
With interest rates seemingly on the rise, is now a good time to consider a fixed rate home loan?
Fixed versus variable rates
A fixed rate home loan has a fixed loan interest rate applying for a specified time frame of commonly up to five years. When the interest rate loan period expires, there are two main options: a new fixed rate will be applied to the remaining loan principal, or the loan can be converted to a variable rate loan at the prevailing market rate.
Benefits of a fixed rate home loan
- Certainty: If you live on a set budget and are concerned about maintaining payment obligations in a rising interest rate environment, it makes sense to consider fixing all or part of your loan to give you comfort and peace of mind about your cash flow.
- The choice of loan term: This can be helpful if you are in seasonal or contract employment and need to keep a close eye on balancing your expenses.
Disadvantages of a fixed loan
- Limited ability to accelerate loan repayments: Many products still have a set limit on the amount by which you can reduce the loan principal each year. Accelerating beyond that figure may not be possible, or if it is, you may incur significant fees.
- Break costs: These depend on the size of the loan principal as well as the remaining loan term when the loan change occurs. These can easily run into hundreds or maybe even thousands of dollars, so it pays to check the exact amount before making any loan alterations.
- Interest rate shocks: This can happen when a fixed loan is entered into at a low point in the interest rate cycle. When the loan re-set period occurs, the prevailing rates could be much higher than those currently experienced. This can lead to severe budget stress for the unwary.
Remember, deciding whether a fixed or variable loan structure is best for your circumstances depends on a range of factors: the loan size, the expected life of the loan, and whether you are making accelerated payments.
Speak to us today for assistance in determining which loan type fits your needs best.