When you decide to buy a new home, one of the most significant decisions you need to make is the home loan. While you can use a home loan EMI calculator to determine the suitable tenure and home loan interest rate for you, you also need to plan whether you should opt for a variable rate home loan or a fixed rate home loan. First, you need to understand what each type of loan offers you to make this decision.
What is a fixed-rate home loan?
A home loan with a fixed rate is one where the interest rate is fixed when you sign the loan. Besides an interest rate that stays constant throughout the tenure, you can even set the interest rate for a specific duration, such as 2, 3, or 5 years as the lender offers.
What are the benefits of a fixed-rate home loan?
When you select a fixed-rate home loan, you get some clarity right at the start on how much you will repay. This allows you to plan your budget for other milestones and manage finances accordingly. It also gives a clear understanding of your loan duration, payments, and how much you will be paying as interest across the entire duration.
When should you opt for a fixed-rate home loan?
You should select a fixed rate home loan when,
· The EMI you will be paying is well within your budget.
· You judge the interest rates may rise in the future, therefore locking in a lower interest rate for your loan is wiser.
· If the interest rate has come down in the recent past and the current interest rate favours your budget, then it is prudent to lock it in.
What is a variable rate home loan?
A variable rate home loan offers an interest rate linked to an external benchmark rate. The benchmark rate can be the repo rate, treasury bill yields, CD (Certificate of Deposit) rates, or MIBOR (Mumbai Interbank Outright Rate). Any movement in the benchmark rate has a directly proportional impact on your interest rate. The home loan interest rate is usually calculated considering economic factors such as inflation, monetary policies, fiscal deficit, global interest rates, etc. A home loan EMI calculator will help you calculate the variable interest rate. The interest rate is revised at specific intervals, such as after a quarter, two quarters, or every financial year. When the rate is reset based on the changes in the benchmark rate, it is actually the loan tenure that gets adjusted. This implies that if the rate increases, the tenure gets extended. If the rate decreases, then the tenure is reduced.
What are the benefits of a variable rate home loan?
The way the interest rate is structured offers you flexibility on your payments. It allows you to make the most of a drop in interest rate, so you do not end up paying more than what you could be.
When should you opt for a variable rate home loan?
You should select a variable rate home loan when,
· You expect the interest rate to drop over time, then opting for this type of loan will reduce the cost of taking a home loan.
· You are unsure about interest rate changes and would rather trust the market rate; then, you should opt for a variable rate home loan.
· You want to save on the interest cost; variable rates are usually set at a marginally lower rate than fixed-rate home loans.
If this isn’t enough to help you decide which way to go, you can even opt for a combination of the two, where a part of the loan is fixed and the other part is variable. You can then structure your home loan payments based on your present and future finances.