Is variable or fixed rate better?
TLDR: Fixed-rate loans lock in the amount of interest you pay on a given loan amount for the loan’s entire lifetime. On the other hand, variable-rate loans give you the ability to get a lower interest rate throughout the re-adjustment periods of your loan; however, they also come with the risk of increasing interest rates.
If you’re looking for a loan of any sort, one of the most important things you need to consider is whether it has a fixed or variable rate. As you know, loans work by way of a financial institution giving you a specific amount of money that is to be paid back according to the details of the loan contract you signed. Financial institutions make their money from loans by charging interest on the money you borrow; this is what is known as your loan rate.
Depending on your intended purpose for taking the loan out and how you plan to pay it back, fixed-rate and variable-rate loans offer different advantages. To make the best decision about which loan type is right for you, you need to know the core differences between each of these loan types so that you can see which one matches your financial objectives the best.
Continue reading to find out all of the critical information you need to know as it relates to fixed-rate and variable rate loans.
Which is better, fixed, or variable rate?
To begin, let’s get a clear picture as to what fixed-rate and variable rate loans are in the first place. With fixed-rate loans, the amount of interest you pay remains the same throughout the entirety of your loan. This essentially means the amount of money you pay to borrow will not change for the entire lifetime of your loan.
With variable-rate loans, your interest rate is subject to change at any given time based upon market fluctuation. That means that you could end up paying less or more for the initial amount of capital you borrowed. Often, lenders will give you the ability to choose the type of financing you want on a loan so you can get the same amount of money under either a variable or fixed rate.
Another critical fact to note about variable rate loans is that they have interest rate caps that are designed to protect borrowers from insanely inflated rates in extreme market downturns. However, interest rate caps for variable loans are often so high themselves that they don’t offer the level of protection you would expect.
Here is the breakdown of rate caps for variable-rate loans:
⦁ There is an initial cap rate of 1.5%, which restricts the amount of interest you pay during the first adjustment period to 5.25% or 2.25%.
⦁ There is a periodical cap of 2%, which limits the amount of interest you pay for the second adjustment period by 2% according to whatever your interest rate was at the end of the first adjustment period.
⦁ The lifetime cap of 10% restricts the amount of interest you pay to 13.75% for your loan’s entire lifetime.
These are all of the interest cap percentages that apply to variable-rate loans of any kind.
Choosing the right loan type for your situation
You can get a variable rate or fixed-rate loan for virtually all types of lender programs: student loans, personal loans, and mortgages. Come in fixed-rate and variable-rate formats. If you want security knowing that your interest rate will be locked in for your loan’s entire lifespan, fixed-rate loans are best for you.
If you’re, a bit financially savvy, or have gotten advice from someone credible who suggests that markets are posed to favor variable-rate lenders, you can go with a variable-rate loan, but you need to understand the risks involved.
People Also Ask
Q: Which is better fixed or variable rate loan?
A: In a market where interest rates are low, a fixed loan gives you the ability to lock-in your rate before they increase. If interest rates are going downward in an economy, a variable loan is best.
Q: Are personal loans fixed or variable?
A: Many personal loans are unsecured, and they come with fixed payments. However, there are some variable rate personal loan options out there in addition to secured personal loans.
Q: Do variable rates ever go down?
A: It all depends on the contractual terms of your loan agreement in addition to the condition of the current financial market. Variable-rate loans can either increase or decrease, which is why they are primarily considered to be riskier than fixed-rate loans.
By now, you know everything that there is to know about the main differences between fixed-rate and variable-rate loans. Before choosing which loan format is right for you, ask yourself the following questions, “Do I want security, or am I willing to take a risk?” “How fast do I plan on paying back this loan?” Once you answer those, you’ll be able to make a decision about which loan format is right for you.