When you purchase a new home and take on a mortgage the bank will lend money to you for a fee called interest. The interest costs are calculated annually with repayments set at weekly, fortnightly, or monthly.
Depending on the type of mortgage, the overall interest cost will decrease during the term of the mortgage as you pay off the principle (the amount you have borrowed). This is known as a table mortgage and is the most used mortgage type.
The mortgage repayments can be set as a floating rate mortgage or a fixed rate mortgage (or any combination of the two).
It is very common for clients to ask what does floating, or fixed interest rates mean.
Floating Interest –The floating interest rate is variable and moves up (which is a disadvantage) and down (which is an advantage) with the finance market. Repayments are interest & principle. The floating rate mortgage is flexible allowing you to pay off lump sums off the mortgage without penalty anytime.
Fixed Interest – The fixed interest rates are fixed (will not move up or down during the fixed rate period) from between 6 mths to 5 years. This gives stability of repayment for the fixed term selected.
Repayments are set at a minimum level or increased to the level you want them to be for the period of the fixed rate mortgage.
When selecting the fixed term, please keep in mind your goals, current economic conditions, what you think interest rates might do over the next 1-5 years, how long stability of repayment is required & how often you want to review the mortgage.
What’s best for your budget? – Have a think about all the implications of interest rate increases. With rising mortgage repayments you will need to consider how much you have left over for other fixed costs (such as rates, insurance, water, and maintenance) and discretionary costs (such as lifestyle, holiday and savings).
What’s certainty worth? – having the option of a fixed mortgage will give certainty of repayments for a period, no matter what the interest rate markets do. This can relieve stress in a rising interest rate environment.
Look ahead – If it’s likely that you’ll be able to make a lump sum payment on your loan in the near future, or perhaps selling your home, then keeping your mortgage on a floating rate for a longer period or fixing short term is a good idea.
Are you able to split the mortgage floating/fixed 50/50, 80/20,60/40 or have multiple fixed terms? – Yes, when you split your loan over several fixed rates, then you are interest rate averaging. This can give certainty of repayments over different periods, but the opportunity to review the mortgage more frequently. You can also pay off lump sums at review time if that is important to you.
Understanding Floating & Fixed Mortgages – Having the correct understanding and ability to answer the question, what does floating, or fixed interest rates mean, will assist with ensuring you have the correct mortgage structures to suit your requirements.