Home loan interest rates in Australia have been at all-time lows for the past few years, as the COVID-19 pandemic and its associated economic impacts have taken a toll. However, like all variables within the economy, interest rates can and do change.

As we see rates start to increase, prospective home buyers should think carefully about what type of loan best suits their needs – fixed, variable, or split.

If you already have a home loan, now might be the time to ensure you are getting the most out of your loan. Your Bank will generally have the flexibility to change to suit your changing needs.

A fixed rate loan remains the same even if interest rates rise, while a variable rate loan can increase, meaning higher repayments. A split loan can help to manage the risk of higher repayments in the future by letting you fix some of the loan and leave the rest variable.

Here we step through the different options to consider and how they work.

Locking in a fixed rate loan

In a rising rate environment, some borrowers prefer to lock in a fixed rate for a period of one to five years. This protects them against paying any future interest rate increases for the fixed period, and provides certainty that their repayments will remain the same.

While this may work for some, it’s important to remember that fixed rate loans come with certain conditions.

• You may be limited in how much extra you can repay off the loan during the fixed rate period.
• You may not be able to access features such as redraw or offset accounts.
• If rates fall during this time, you won’t benefit from a reduction in your repayments.

Also, fixed rate loans are locked into a contract. There can be fees involved if you wish to break the loan for any reason, such as if you refinance or sell your property. For these reasons, some borrowers prefer a variable rate loan.

Opting for a variable rate loan

Variable rate loans can change at any time, usually when changes to the official cash rate rate are announced by the Reserve Bank of Australia (RBA).

These types of loans are flexible, and depending on the conditions of the loan, they allow you to do things like:

• Make unlimited extra repayments, to help you pay your home off as quickly as possible.
• Link to an offset account, so your savings can help reduce the interest payable.
• Change your loan or refinance at any time without any break fees or financial penalties.

While a variable rate loan can be more flexible than a fixed rate one, there are potential downsides. If the RBA cash rate goes up or if your lender increases rates, your mortgage repayments will increase, too. Consider how your budget could be impacted if your mortgage increased by $100 per month, $500 per month or even more.