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A variable rate home loan has a variable interest rate, which means the interest rate you pay can fluctuate1. What causes the interest rate to go up and down? Well, it could because of a few things: changes in the market interest rates, business decisions made by your lender or the performance of the official cash rate (OCR). If OCR sounds a bit like gibberish, jump to the next question.
The official cash rate (OCR) is the rate of interest set by the Reserve Bank of Australia (RBA) on overnight loans to commercial banks, so it has a big influence on home loan interest rates2. Think of it as a benchmark for interest rates. When the OCR goes up or down, lenders typically adjust their interest rates.
This means you might end up paying more or less interest on your variable home loan, depending on the movement of the OCR. But it’s important to remember that it’s up to your lender whether they pass on any rate changes. They can also change the interest rate on variable home loans independent of the RBA.
It depends on how much the interest rate increases or decreases. But here’s an example of how a 1.00% variation in interest rate can impact your monthly repayments, based on a $500,000 loan over a 25-year term:
Monthly repayment at 4.0% per annum
|Monthly repayment at 4.5% per annum||Monthly repayment at 5.0% per annum|
This is a general example. This table should not be relied on for your personal situation.
As you can see, a change of just 1% to your mortgage’s interest rate could have you paying a lot more. Or less if the interest rate goes down.
There’s no conclusive way of knowing when the interest rate will change. A media release is issued at 2.30 pm after each monthly Reserve Bank Board meeting2, with any changes in the cash rate taking effect the next day. But it’s important to note that your lender isn’t actually required to follow the RBA, it’s only a recommendation. If they do decide to lower or increase the rate, they’ll notify you. Over the last 5 year period, the RBA has dropped the cash rate from 1.5% to 0.25% 3.
You’ve typically got two choices when it comes to variable rate home loans: standard and basic.
Standard variable home loans often offer a discounted interest rate, along with extra features that could potentially help you pay off your loan faster and save you more money in the long run. Some of these include:
Basic variable home loans typically lack the extra features. So why would you pick a basic variable home loan? Well, they generally offer a lower interest rate than standard variable loans. This can make basic variable rate home loans an attractive option for first home buyers and those trying to keep costs down.
Before settling on a home loan, you should consider whether you want a variable rate home loan, fixed rate home loan or a combination of the both, which is known as a split home loan. Here are some of the key differences:
In a low interest rate environment, like the one we saw in 2020, many homeowners on variable rate products would have benefitted from reduced interest repayments. That said, even when rates rise again, a variable rate mortgage can be a beneficial option for some homeowners. They often come with a range of features not accessible through a fixed rate mortgage, such as having a redraw facility and the ability to make uncapped additional repayments.
When it comes to a fixed home loan, it can be quite hard to make extra repayments, access your funds and payout your mortgage. But with a variable rate home loan you’ll find you generally have a lot more flexibility. It’s important to check with your lender what you can and can’t do before signing up, but you’ll find variable home loans often allow you to:
Basic variable home loans may offer a lower interest rate, so they can be a good choice for first-home buyers who need a simple, low-cost loan.
Standard variable home loans may be suited to those who want more flexibility in their home loans. For example, determined budgeters might like having the option to make additional repayments, so they can reduce the overall cost of the loan and pay it off ahead of schedule.
It’s not just about finding the lowest variable home loan rate, but finding one that’s suitable for your unique situation. So, what are some of the features you should look for?
Before you sign up, compare a range of different lenders and have open conversations with them about your needs and repayment capacity. Remember that lenders aren’t actually required to follow the RBA cash rate. So it’s important to make sure you’re comfortable with the changing rate.
Want some help comparing? iSelect has partnered with Lendi to make this process a whole lot easier. Get started comparing home loans from 25+ lenders online the easy way, or give Lendi a call on 1300 186 260 (08:30-18:30).
Last Updated: 10/11/2020