Monday, 22 August 2016

Fixed Rate Home Loans V/s Variable Rate Home Loans

When it comes to buying a residential property, you ought to use home loan facility. Irrespective of surplus cash in your hand, you should always make use of credit for buying a house. You should never exhaust all the savings in hand for purchasing a home. Availing a home loan is not only a cheaper credit option but it also offers a lot of tax saving benefits. But as you decide to get a home loan, you should clearly know which type of loan you should apply for- a fixed rate home loan or a variable rate loan.

How fixed rate home loans are different from variable rate home loans?
In the simplest words, fixed interest home loans can be defined as home loans with fixed rate of interest for entire amortization period. While the variable rate home loans are the ones where rate of interest is not fixed, but changes as per the market conditions throughout the term of loan.
Thus, if you choose to go for a fixed interest rate home loan, your monthly installment for entire duration would be same, irrespective of market conditions. While the payout would keep fluctuating in case of variable or floating interest home loan.

So, what you should expect when you go for a fixed or a variable interest component?

1.       First things first, with fixed monthly installments you can easily calculate your monthly expenses and make a budget. Thus it is always easier to manage a fixed loan EMI, as compared to a variable interest EMI. In case of variable interest loan, you would need to calculate your EMI every month and this is the most inconvenient factor regarding the changing interest rates. You can use online home loan emi calculator to know about your monthly installments.

2.       Sometimes interest hike may cost you thousands of rupees in a single month and affect your budget. However, when rate of interest is fixed irrespective of market conditions, you pay the same amount, despite the increase or decrease in the base rate. This certainty factor goes in favour of fixed rates.

3.       Usually the rate of fixed interest is higher by 1 to 2.5 % as compared to floating interest rates. Banks charge higher interest rate to cover up the risk of rising interest rates in future. Hence you tend to pay higher rate of interest if you go for a fixed interest loan.

4.       Again, when home loan interest rates fall, you ought to lose the benefits of falling rates if you go for fixed rate. Your EMI will remain high despite the change in market conditions.        
When you should go for a fixed rate home loan?

1.       As home loan is a long term commitment it is viable to have a fixed rate of interest so that you have a kind of certainty pertaining to your expenses. Particularly when monthly installment is less than 40 % of your income, it is considered fairly easier to manage the loan repayment. So as a credit responsible person, you can lock your EMI by going for a fixed rate. By doing so, you need not worry about hike in monthly expenses due to change in interest rate.

2.       Next, when you are comfortable paying your current loan, you can also enjoy other credit requirements with a little planning in the near future. Repaying your loan is the most important factor to improve CIBIL score.

3.       Another good option is to go for an initial 3-4 years fixed loan that is convertible to floating rate thereafter. However you should always check out the fee for switching between the rates from the bank.

4.       This might be a common sense, however it is an important aspect that needs to be considered when you choose the type of loan component. When interest rates are already low and are expected to rise in the near future, go for fixed rate.

5.       For long duration loans, fixed rates are generally a preferred choice.

When you should go for a variable loan?

1.       If you plan to prepay the loan you should opt for floating rate loan. For, fixed rates are higher and if you choose to close the account in a short period you would certainly save on the interest. Also, your loan would not see many cycles of rate fluctuations so you need not bank on fixed rate and pay for certainty factor unnecessarily.

2.       Next, if you are really good at managing your funds, you can certainly choose floating rate as fixed rates are always higher than the current floating rate being offered. You can always save from 1 to 2 per cent on interest rates every month. Also, interest rate would not jump to 2-3 per cent in a day. You will get time to switch the rate type by paying the fee. Next, rate will keep on fluctuating so it is not going to remain higher than fixed rate for entire tenure.

So the decision to opt for the fixed or variable interest rate should primarily be based on your budget and current market situation. Hope the points discussed above helps you take an informed decision.

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