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Fixed and Variable Rate Mortgages

Some people get confused about the difference between variable interest rates and fixed interest rates. So below is a brief explanation of these:

Variable Rate

With this type of loan the amount of interest that you must pay can increase and decrease. Changes in the variable rate are determined largely by base interest rates set by the Reserve Bank of Australia in response to prevailing economic conditions. A variable rate loan is the most common type of  home loan in Australia.

Fixed Rate

Are you looking for a mortgage where you will know what your repayments will be for a fixed period so that you can plan your budget? If so, then a fixed rate loan may be for you however be careful as it comes at a price..

Fixed rate loans are those where the rates are fixed for a specific term with the result that your mortgage repayment remains constant for that term. For example, you can take your mortgage over a 20 year term and decide to get a fixed rate for the first 3 years of that term; thereby making it easier to plan for the future.

So, of course, the question is 'What happens at the end of the fixed period?' At the end of the fixed period you can choose between fixing your payments again for another specified period of time at whatever the new prevailing fixed rates are on offer, or you can switch to a variable rate repayment method.

If you opt for a fixed rate you commit yourself to paying this rate until the agreed period of time has expired. If you decide to pay your loan back early or wish to change to a different interest rate offer you will have to pay a fee (known as an early repayment fee) for terminating your fixed rate agreement. You should therefore only opt for a fixed rate if you are certain that you won't be "breaking" the fixed term contract.

You should also keep in mind that interest rate markets that determine fixed interest rates are dominated by professional finance people whose job it is is to work out what is going to happen to interest rates in the future. So by the time you have heard about some economic news or media comment about interest rates going up, the interest rate markets would have already adjusted for this information. So unless you have a rare insight into to future events it is unlikely that you will get the better of the deal. Experience would suggest that there is no such thing as a free lunch !

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