It is important to understand the differences between variable interest rates and fixed interest rates if you're considering a loan. Whether you're applying for a new mortgage or applying for a personal loan or credit card, understanding the differences between variable and fixed interest rates can help save you money and meet your financial goals.
Variable Interest Rate Loan
A Variable interest rate loan is a loan in which the interest rate charged on the outstanding balance varies as market interest rates change. The interest charged on a variable interest rate loan is linked to an underlying benchmark or index.
As a result, your payments will vary as well as long as your payments are blended with principal & interest .You can find variable interest rates in mortgages, credit cards, personal loans, derivatives, and corporate bonds.
Fixed Interest Rate Loans
Fixed interest rate loans are loans in which the interest rate charged on the loan will remain fixed for that loan's entire term, no matter what market interest rates do. This will result in your payments being the same over the entire term. Whether a fixed-rate loan is better for you will depend on the interest rate environment when the loan is taken out and on the duration of the loan.
Which Is Better: Fixed Interest Rate or Variable Rate Loan?
This discussion is simplistic, but the explanation will not change in a more complicated situation. Studies have found that over time, the borrower is likely to pay less interest overall with a variable rate loan versus a fixed-rate loan.
However, historical trends aren't necessarily indicative of future performance. The borrower must also consider the of a loan. The longer the amortization period of a loan, the greater the impact a change in interest rates will have on your payments.
Below chart showing indicative historic data of average Home Loan Interest rates in US
KEY TAKEAWAYS
A variable interest rate loan is a loan where the interest charged on the outstanding balance fluctuates based on an underlying benchmark or index that periodically changes.
A fixed interest rate loan is a loan where the interest rate on the loan remains the same for the life of the loan.
A variable rate loan benefits borrowers in a declining interest rate market because their loan payments will decrease as well.
However, when interest rates rise, borrowers who hold a variable rate loan will find the amount due on their loan payments also increases.
So, to summaries while taking a loan all the four factors i. e whether the loan is flat/diminishing and whether the interest is fixed/variable is to be taken care of.
For reading about flat/diminishing, please go to the link.
Cheers,
Sreekanth
0503963193
Credit-Historic date of Home Loans in US from Valuepenguin
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