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Key takeaways:
- For owner-occupied home loans, recent APRA data shows that the average fixed rate for terms under 3 years is 5.95% p.a., while for terms over 3 years, it is 6.77% p.a.
- Fixed rate home loans make up just 2% of new loans in Australia as of May 2024. This is down from around 40% at its peak in 2021.
What is a fixed rate home loan?
A fixed rate home loan is a mortgage where the interest rate is locked for a set period - usually between one and five years. This means your repayments won’t change if interest rates go up or down during this time.
When the fixed term ends, your loan usually switches to a variable rate unless you lock in a new fixed term with your lender. Fixed rates have both pros and cons, which we’ll explain further below to help you decide if it’s right for you.
Why do borrowers lock in their rates?
Locking your interest rates protects you from future rate hikes. By fixing your rate for a set period, you ensure that your repayments remain the same, which makes budgeting easier. This can be especially appealing in times of economic uncertainty or when rates are expected to rise, providing peace of mind that your mortgage repayments won’t increase even if rates go up.
Fact: According to the RBA, around 880,000 mortgages with low fixed rates switched to higher variable rates in 2023.
Fixed rate vs variable rate: Key differences
Here are some key differences between fixed and variable rate mortgages:
Fixed rate home loans
- The interest rate stays the same throughout the fixed term, meaning your repayments are consistent and won’t change.
- You are protected from interest rate increases during the fixed term, but you’ll miss out on lower rates if they fall.
- Easier to budget and plan as you know exactly what your repayments are going to be for a set period.
- Often comes with fewer features and less flexibility, e.g. limits on extra payments or early repayment options.
- May include penalties or fees for breaking the fixed term early or for making extra repayments.
- You can pick a short or long fixed term based on your financial situation or goals.
Variable rate home loans
- The interest rate can fluctuate based on market conditions, which means your repayments can go up or down.
- On variable rate home loans you benefit from potential rate drops, but you are also exposed to the risk of rates increasing.
- Repayments can vary with monthly interest charges, potentially impacting your budget.
- Typically offers more flexibility, including options for extra payments and often allows for early repayment.
- Usually has fewer penalties for extra repayments or loan changes, but terms and conditions can vary by lender.
- It’s easier to refinance your home loan and avoid exit fees.
6 fixed rate home loan features worth considering
Below are six important features of fixed rate home loans. It’s helpful to know about them because some might fit your needs better than others.
1. Rate lock
A rate lock lets you secure your interest rate while you’re applying for the home loan, so you don’t have to wait until settlement. Most lenders charge a fee for this service, usually between 0.15% and 0.20% of your loan amount.
As shown below by Great Southern Bank, this fee can be quite high.
2. Offset account
An offset account is a type of account linked to your home loan that helps reduce the interest you pay. This feature is generally not available with fixed rate home loans; it’s more commonly offered with variable rate loans.
Offset accounts work like regular transaction accounts but the balance in this account is used to offset the loan balance when calculating interest. There are two types: a fully offset account, where the entire balance reduces the interest on your loan, and a partial offset account, where only a percentage of the balance is used to lower the interest.
3. Additional repayments
Additional repayments are payments you make on top of your minimum monthly mortgage repayments. Some banks let you make these extra payments, but there might be limits on how much you can add. For example, you might be able to pay an extra $20,000 during the fixed rate period without incurring any fees.
Taken from ME Bank’s website below:
4. Redraw facility
A redraw facility lets you withdraw extra money you’ve paid on top of your minimum home loan repayments. For instance, if you’ve paid more than your regular monthly amount, some lenders allow you to access that extra money if you need it. However, you may need to wait until the end of your fixed rate term to take out these additional funds.
Here’s a screenshot from NAB:
5. Flexible repayments
With some fixed rate home loans, you can choose your repayment frequency - either weekly, fortnightly or monthly. You might also have the option to make interest-only repayments for a certain period, which is often chosen by property investors.
As taken from Reduce Home Loans’ website:
6. Split loan
A split loan lets you divide your mortgage into two parts: one with a fixed rate for stability and one with a variable rate for flexibility. You can decide how to split it, like 50/50, 60/40, or 70/30, based on what works best for you.
Fact: Mortgage brokers are experts on all types of home loans, including fixed rate mortgages. They can access many lenders and fixed rate options, compare rates for you, and recommend the best features based on your needs and goals.
How to choose a fixed rate home loan
Here are some important factors to think about when choosing a fixed rate home loan:
Assess your financial needs
Think about your situation and goals, including whether a home loan with a fixed rate will benefit you in the long run.
Talk to a professional
Find out if it’s a good time to lock in your rates by speaking to a mortgage broker. They can offer valuable insights in the home loans market and help you decide what’s best for you.
Look beyond the interest rate
Getting a lower interest rate is important during the fixed period, but the comparison rate could be a red herring. A comparison rate highlights the true cost of a home loan. It includes the interest rate plus fees and charges, expressed as a single percentage. This makes it easier to compare loans and see the overall cost, not just the interest rate.
Take a close look at the fees
The comparison rate for fixed rate home loans can be a little deceiving. It’s based on a 25-year loan term, so once the fixed period ends, the variable rate it rolls onto can greatly affect it. That’s why it’s important to check the fees, including the rate lock fee (if applicable), early or additional repayment fees, application fees, and any ongoing fees.
Consider loan features
Fixed rate home loans usually have fewer features compared to variable loans. However, some lenders might allow extra repayments up to a certain limit. Additionally, some fixed rate loans come with features like an offset account, a redraw facility, or a split loan option.
Understand what happens when the fixed rate period ends
After the fixed rate period ends, you’ll most likely be switched to the lender’s variable rate, which might not be as competitive as the current rates available elsewhere.
Is now a good time to fix your interest rate?
As of mid-2024, the Reserve Bank of Australia (RBA) has maintained a cautious stance on interest rates due to ongoing inflation concerns, holding the cash rate at 4.35%. And as the RBA stated in its latest release, “the economic outlook remains highly uncertain”.
The broad consensus among economists is that interest rates probably won’t drop soon, but might start falling around mid-2025. Right now, the lowest fixed interest rate is about 5.59%, compared to the average fixed rate of around 2% for much of 2021, according to RBA data.
If you think rates might drop and you don’t want to be locked in for a long period of time, considering a shorter fixed rate term of one year might be worth exploring.
That being said, it’s always best to speak to a mortgage broker or financial adviser. They can steer you in the right direction based on your personal circumstances.