Your questions answered by an industry expert
Bank rates are going up. Should I fix my home loan?
With banks starting to raise interest rates even without the Reserve Bank changing rates I want to know if I should fix my home loan now? Peter, Katoomba, NSW.
This is always a tough question and individual circumstances will determine the answer, but let's start with some facts.
The loan experts say most fixers get it wrong but if you are going to fix it should be when interest rates are around their lows. They are there now. If another major calamity happened on the stock market and/or in the global economy, interest rates could fall. Local economists think rates could fall by 1% maximum but many now think the cuts are over.
The CBA's standard variable rate is 5.74% but this grows to 5.87% when you add fees and charges. This is called the comparison rate and you should always ask for and look for this rate when comparing home loans.
If official interest rates rose by 1% a year for five years, what's the comparative fixed rate you could lock in at the CBA?
After one year, the variable rate would be 6.87% while a one-year fixed rate you can get is 5.39%, and its comparison rate is 5.89%. Not much difference there. After two years the variable is 6.87%, but the two-year fixed rate is 5.91%. Fixed is starting to look good.
After three years, variable would grow to 7.87% with my example of a 1% increase a year, but the three-year fixed rate is 6.69%. Now, look closely as this still makes the case for fixing, but remember maybe, in the real world, the current variable rate might be held at 5.87% for a year and if you lock in at 6.69%, you are paying 0.82% more.
On a five-year basis, the variable rate could go to 10.74%, using my 1%-a-year rise, but lets just say 10%. The five-year fixed rate now is 7.34% which the variable rate catches up to somewhere between years two and three. For a couple of years you will be overpaying with a fixed rate to avoid the years if and when rates go to 9-10%.
You see, it's a gamble but if you are over-borrowed and could not stand rate rises, in cash flow terms, you won't whinge if rates fall. If you want the security of knowing you can make your payments comfortably, then a three- or five-year rate could be the shot. Note, I say "could be". It's hard to generalise an answer on this subject.
You should also know that the general fixed loan doesn't let you put extra payments in to pay off the loan quickly, but I have heard some do.
If you have a five-year loan and you sell within that time and want to pay off the loan or want to switch loans, you will be charged a break fee and this can be huge. Find out what the charges will be.
Be insistent if they say that the cost varies. Give them examples of the cost if the variable rate is 6%, 7%, 8%, 9% etc and get it in writing.
This is the longest answer I have given to a Yahoo Q&A, but it's an important and tricky topic. Getting advice from a trusted adviser might be a great idea - even get a number of opinions from people you can trust. If you haven't got people like these in your life, then it's time you went looking for them!
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