Understanding the Key Differences between Loan Types

Understanding the Key Differences between Loan Types

Loans are part and parcel of a homeowner’s life. In fact, most people have to take out loans to acquire the house of their dreams.

Before that happens, though, one must first know the different loan types available. See them below. 

Variable Rate Home Loans

The interest rate of variable rate home loans goes up or down depending on market conditions. When they increase, borrower repayments automatically increase and vice versa. If its interest rates decrease, it is beneficial for you to maintain your previous (i.e., higher) repayment level to pay off your debt quickly. 

The increase and decrease in Australia’s official cash rate affect the country’s home loan interest rate movements. The Reserve Bank of Australia sets it while its board reviews it monthly. If they adjust the cash rate, the lenders in the market modify their interest rates appropriately.

The Advantages and Disadvantages of Variable Rate Home Loans 

One of the advantages of a variable rate home loan is it comes with more features, such as offset accounts and redraw facilities. Also, it usually has lower fees than a fixed-rate home loan. But its advantage is if interest rates decrease, borrowers with variable rates are charged with less interest than those with fixed rates.

As for the disadvantages, variable rate borrowers know exactly what their repayments are, making budgeting more difficult. Also, if interest rates increase, borrowers with variable rates are charged with more interest than those with fixed rates. They also have a higher chance of getting into mortgage stress because their repayments increase.

Fixed-Rate Home Loans 

The interest rate of fixed-rate home loans stays the same for a given period, usually lasting from one to five years. At the end of the fixed term, you can choose another fixed term. On the other hand, the loan may automatically be converted to your current variable rate.

There is a possibility that fixed rates will be higher or lower than variable rates in the market. For example, if it is lower, lenders will believe variable rates will fall in the future and vice versa. 

The Advantages and Disadvantages of Fixed Rate Home Loans 

One of its advantages is if interest rates increase, borrowers with fixed rates are charged with less interest than those with variable rates. Furthermore, since their repayments will not change until their fixed term expires, they can budget easily with more confidence.

One of its disadvantages is it usually has higher fees than variable rate products. Also, if a borrower wants to change their loan before the expiration of their fixed interest period, there will be “break” charges. Also, some fixed interest products limit the borrower’s capability to make extra repayments.

Interest-Only Home Loans 

Interest-only home loans require the borrower to make interest and fee repayments for a defined period, which usually lasts up to five years. There is no reduction of the principal amount (i.e., the amount borrowed) during this time.

After the interest-only period, the loan usually reverts to a standard principal and interest repayment arrangement. This happens until the outstanding balance is paid back in full.

The Advantages and Disadvantages of Interest-Only Home Loans 

One of the advantages of interest-only home loans is its borrower repayments are usually lower than standard principal and interest loans. Also, it provides higher tax deductions for borrowers with investment properties. Furthermore, they can use interest-only loans for short-term arrangements.

Meanwhile, one of the disadvantages of interest-only loans is its rates may be higher than standard loans. Moreover, if you want to borrow this loan, it might be challenging to gain approval from lenders. Lastly, borrowers cannot build equity in their properties via their repayments during the interest-only period.

Ending Note

These loans are different in terms of interest rates, conditions, and other features. Therefore, it will be better to understand them to make the right choice.

If you’re looking for mortgage lenders in Perth that can assist you in purchasing your dream home, don’t hesitate to contact FinanceCorp. We are mortgage professionals committed to ensuring that you thoroughly understand the lending options available to you. 

All of the Finance Managers at FinanceCorp are fully qualified, trained and experienced mortgage professionals who live and breathe finance. Give us a call today to get started!