Whenever there is movement with interest rates, mortgage holders start to consider fixing their home loan rate as an insurance policy against future rate rises.
While fixing your home loan rate may feel like the smart thing to do in a rising market, your decision should be based on strategy and forward planning as opposed to market speculation.
Because although fixing may feel safe, it can also have negative consequences!
So how do you decide what’s right for you? And what do you need to consider to ensure you make an informed decision?
A fixed rate home loan has the advantage of ‘set’ repayments for a predetermined period (ie the fixed term) which is an excellent strategy if you want certainty with your cash flow commitments. However, there are also disadvantages you need to be aware of before you make a fixed rate decision.
Here is a 7 step checklist I use when working with clients on whether to fix or not:
1. How likely are you to sell your property during the fixed term?
Breaking a fixed rate home loan can be costly as it all depends on the direction interest rates move. For example, if you fix today and the variable rate is lower than the rate you fixed at when you sell the property, the break cost can be significant as the lender will pass on the economic cost to you.
2. How likely are you to access equity for home improvements and renovations?
If the lender you fix your mortgage with is not flexible when it comes to releasing equity, you may find it costly to move to a lender that has an appetite for equity release.
3. Do you want to leverage the equity in your home to invest in another property?
Equity release for investment purposes can be difficult with some lenders If you are forced to break the fixed term to refinance to a friendlier lender, then the break cost can be significant. This may cost you in lost opportunity and restrict you from buying more property.
4. Do you plan to make extra repayments during the fixed term?
Most lenders that offer fixed rate home loans limit the amount of extra repayments that you can make. Once you go over the maximum repayment amount, you can be penalised as you will be in breach of the terms of the mortgage. This removes the flexibility of making extra repayments which ultimately save you on loan interest.
5. Do you plan on redrawing your additional repayments if cashflow becomes tight or you have unexpected financial circumstances?
Most lenders won’t allow you to redraw your extra repayments until the fixed rate term has expired. This removes flexibility of accessing your additional repayments in times of need, forcing you to source additional money from other sources. Again, this may be a hassle and a costly exercise.
6. Do you have a high household income to offset your mortgage debt?
A fixed rate home loan is an insurance policy against rate rises, but it can also remove flexibility and control over your cash flow. Only a few lenders allow a 100% offset account against a fixed rate mortgage, however this is the exception and not the rule. So if you have cash reserves and regular savings you may miss out on the opportunity to offset this spare cash against your mortgage.
7. How secure is your relationship?
Things are bad enough for you and very costly if you separate. If you are on rocky grounds with your partner and share a fixed loan together, break costs are just another expense to add to the list. If your relationship is not going to outlast the fixed term, then fixing may not be a good option for you.
Of course all conversations we have are in the strictest of confidence, so feel free to share your future plans to allow us to help you make the most appropriate decision for your future circumstances.
There may be many other issues to consider. However the above 7 step checklist covers the main issues when considering a fixed rate home loan.
Fixing your rate has the ultimate benefit of achieving ‘certainty’ with your mortgage repayments, however breaking a fixed rate loan can be costly along with removing flexibility and control.
Of course there is the option to apply for a split loan – part fixed and part variable – however the same issues apply if you need to exit from your lender as the fixed portion of your home loan restricts you.
Speculating on rate movements is fraught with danger and making a fixed versus variable decision for the wrong reasons can be costly.
Fixing your rate may also be the right decision, provided it is based on the right strategy.