“While most fixed home loans allow for additional repayments, they usually come with restrictions on how much you can add each year during the fixed period."
Fixed home loan interest rates are attractive, but beware the potential pitfalls and restrictions
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The popularity of fixed-rate home loans is on the rise.
Around 22% of borrowers who arranged their loans through a Mortgage Choice broker in November chose a fixed-rate product, compared with a six-month average of 19.5%.
Currently, fixed home loan rates are offered at a significant discount to variable rate home loans.
Mortgage comparison website RateCity.com.au calculates the average three-year fixed rate at 5.54%, compared with a standard variable rate of 6.62% – a difference of 108 basis points.
At these rates, using the example of a $300,000 home loan over 25 years would mean a variable rate borrower would pay $2,048 per month while a fixed-rate borrower would pay $1,710 per month –a difference of $338.
These sorts of numbers may tempt borrowers to consider a fixed-rate home loan, but the fact that nearly 80% of borrowers still choose a variable rate home loan should be cause for caution and careful consideration.
As Mortgage Choice spokesperson Belinda Williamson points out, borrowers must carefully weigh up their options, as fixed rate loans have both “pros and cons”.
“Remember, the interest rate is not the only factor to consider, also compare any initial, recurring and break costs, the ability to make extra repayments and redraw, lender service and how long the loan will take to be approved,” she says.
It is worth stating the obvious benefit and potential shortcoming of a fixed rate home loan – that the interest rate is fixed.
If interest rates rise, fixed-rate borrowers are better off as their mortgage repayments remain unchanged, but if interest rates fall, borrowers receive none of the benefits of a lower interest rate – a situation that was illustrated by the estimated 125,000 borrowers who chose to fix their rate in 2008, just before the RBA began cutting the cash rate in big chunks.
As a result fixed-rate borrowers circa September 2008 were paying annual interest rate of around 8.75% on a three-year fixed loan, while variable borrowers' annual interest rates fell to as low as 5.75% by May 2009, with variable rates remaining below 8% in subsequent years.
The rate you pay, timing and the duration of your fixed-rate home loan are key factors in making a financially astute decision.