When you take out a mortgage you have an option to get either a fixed or a variable home loan – OR one of each which is called a split loan – ie: some variable and some fixed.
Variable and fixed loans each have their pros and cons:
Variable means you benefit if rates in general for your bank go down (your rate should go down to) but if rates go up, yours will too. You can pay significant extra funds over and above normal repayments usually and often redraw the extra you’ve paid and you shouldn’t have large break costs (over and above standard exit fees which are around $350 if your need to discharge your loan). And if you have an offset account you can offset against a variable loan.
Fixed loans give you the confidence in knowing what your repayments will be for a period of time (usually 1, 2 or 3 years) and your rate is set at settlement (or you can pay a fee called a “rate lock” and set it when your loan application is submitted when you’ve found a property). You can usually make extra repayments up to $10,000 a year over and above your normal repayments, but you won’t typically be able to redraw these funds. You also can’t offset against a fixed loan. If you need to end your loan prior (to sell or perhaps refinance) prior to the end of the fixed period you could face break costs (these are typically higher if you’ve fixed at a rate that is higher than current market rates). Also, on that note, if rates in general go down you would pay more interest than if you were on a variable rate – conversely if rates go up, you’re in front.
So – surely having a split loan with some fixed and some variable gives you the best of both worlds?
Well sometimes. You can offset (where applicable) or redraw against your variable amount and then have some security in knowing your fixed rate protects a portion of your debt.
Why I say sometimes, is that some lenders have much higher set up costs for fixed loans, others will require you to be on a package (typically with a large annual fee) to access their best rates, so as your broker we’ll do a cost comparison and come back to you with a recommendation as to why we’re recommending what we are.
If we recommend a portion to be fixed and a portion to be variable important things to remember are:
- Be sure to keep an amount variable that is a comfortable over assessment of what you’ll be able to pay off or want to offset in the period of time you’re fixed for (ie: if your loan is going to be for $250,000 and you think you can pay an extra $40,000 over and above your normal repayments in the first 3 years and you’re looking at fixing for 3 years then perhaps you’d look at fixing $200,000 and keeping $50,000 variable as a suggested starting point).
- Chat with your broker about the costs in fixing and make sure an analysis is done with all costs factored in not just looking at the interest rate.
- Be sure your broker contacts you prior to the fixed loan falling due as without attention these loans typically default to a much higher interest rate without active negotiation prior to expiry.
Downsides to a split loan like this are:
– You’ll have 2 loans – which means more administration on your part. Ultimately you’ll be working on just the variable loan actively (paying down quicker, and either offsetting or putting extra funds into it where you can) while you’d let the fixed loan tick over with minimum repayments usually – but it does mean one more thing to keep track of.
– If you get the splits wrong and have extra cash you’ll typically be limited to an extra $10,000 per year you can pay off the fixed loan.
– Like any fixed loan – it’s an insurance policy (or a gamble some would say) that you’re going to be able to pick which way interest rates go.
Advantages:
– You get both the confidence for budgeting of a fixed loan with fixed repayments AND the ability to redraw (or in some cases) offset with your variable loan.
– If rates go up, your fixed loan protects that part of your debt.
– If rates go down, your variable loan takes advantage of that lowering.
Ultimately, your broker will assess your situation and make their best recommendation for you based on your conversations and their assessment of your needs. Use your broker as a resource, an encyclopaedia as it were (er”¦ Wikipedia for those of you who don’t know encyclopaedias) and go to them with your questions or queries – remember, the only silly one is one you don’t ask!