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Variable Loans: Are They The Right Choice for You?
When you are committing to a home loan, an important factor to consider is the rate of interest on the loan. It is absolutely essential to tame this animal, or else, you may end up paying almost the same amount of interest as the principal! Nobody wants that.
As the name suggests, variable loans offer a variable rate of interest. Variable loans have risen in popularity over the years because of the kind of flexibility they offer to the borrowers. Here are the basics of variable loans and everything else you should know about them.
What is a variable loan?
When a lender gets to determine the interest rate of the loan and change it over its tenure, the loan is called a variable loan. Now, the lenders cannot and do not change the interest rates as it pleases them. It is in fact the market rate that determines the interest rates.
This means that the interest rate can go lower or higher than the current rate in the future, and so will the repayment amount. Borrowers can benefit if the federal bank decides to slash the rates. They may end up paying more interest if there is high inflation and the interest rates are hiked.
You should study the loan product you are interested in and make sure that you understand all its features thoroughly.
What benefits does a variable loan have to offer?
Variable loans offer plenty of benefits that fixed loans usually don’t. These features make it much easier for you to make the repayments towards the loan. Here are some of them.
Pay As You Want
You can make additional repayments whenever you can. This is a huge plus because borrowers can use the money they received in the form of bonuses and gifts to repay their loan at a faster rate. This payment helps them bring down the principal amount and hence the interest they pay over the term of the loan.
This is an incredibly useful feature if you think about it. When you suddenly receive a lump sum of money, it is very easy to be tempted to spend it all away. However, when you have the flexibility to direct it towards the loan, you can slash the principal amount by a significant margin. Instead of spending the money, you can prudently use it to create an asset, which in this case, is your home.
One of the most popular features of the variable loans are offset accounts. The money in the offset account is used to offset the principal amount. This way, the amount of interest payment is reduced. There are two types of offset accounts – 100% offset accounts and partial offset accounts. The difference is that all the money you put in the 100% offset account is adjusted against your loan principal. For partial offset accounts, only a partial amount (predetermined percentage) of the money put in the offset account is adjusted against the principal amount.
Switching is Easier
When you are a first-time home loan buyer, you are not savvy enough to check each and every aspect of your loan. It is possible that you get stuck with a loan product that is not well-suited to your needs or is straight up expensive. So, what do you do? Keep repaying a loan product that you chose when you did not know better? Not if you have a variable loan.
A variable loan may offer you the flexibility to switch loan products. You can make the switch between lenders or you can migrate to a different loan product from the same lender by re-negotiating your terms. This can have a huge impact on the kind of interest you end up paying and the term of your loan as well.
Clearly, a variable loan has a lot of pros. But, there are some cons that you should consider too. Let’s check them out.
What are the cons of variable loans?
This is an inherent risk with variable loans. Your repayments will keep changing depending on the market conditions. Since the market is not in your control, it means that your repayments may change for the worse. Of course, nobody minds a drop in interest rates. However, in the same way, you will sometimes experience increased interest rates too. Although interest rates do not change drastically overnight, the variation does make it a bit difficult to budget for the monthly household expenses.
May lead to increased repayment stress
When the interest rate goes up, for some borrowers it may become difficult to keep up with the payments. This may mean missed payments and the fines that come with them. It makes it even more difficult for such borrowers to make the repayments on the loan going further.
You have to be prepared for the interest hike as well. How? Repay more when the interest rates are down, this will reduce the principal amount or keep some money as a buffer for the harder times. This will keep you above water if and when the interest rates go up.
Which is the right loan for you?
Variable loans are widely available to Australian consumers. There are a variety of products from the most basic to the most feature-loaded variable loans. All you have to do is research them. You can also consult a financial expert to help you guide through the jungle of products and pick out the one that is most suited to your needs.
The key is to not rush the process. Take your time and do your due diligence. A good variable loan can save you thousands of dollars in repayments. This is the choice that is going to have a big impact on your future. Be wise about it.