Switching from a variable rate to a fixed rate: What should you know?

The Reserve Bank cut official interest rates to 0.1% in early November, but instead of the usual reductions to variable home loan rates it looks like the majority of lenders are slashing fixed rates instead.

Since March, the average 2-year fixed rate among providers we track has fallen from 3.13% p.a. to 2.48% p.a. It’s no longer rare to see fixed rates hovering around the 2% mark — in fact, a handful have already dipped below it.

So for anyone in the market for a home loan or thinking about changing the terms of their existing one, the fixed rate options currently available can be enticing. But there are a few things you should know before making a move.

What are the advantages of a fixed rate?

Fixed terms are typically offered for one to five years and in that time your interest rate will be locked in. This means the amount you repay won’t be affected if your lender decides to hike rates, sparing you the hassle of adjusting your monthly budget.

This can be especially useful if you have other financial commitments, or if you'd like to maintain a certain standard of living while paying off your loan. Of course, you’ll have to consider how likely it is that interest rates will rise in the first place ...

Will official interest rates rise any time soon?

Official interest rates are set by the Reserve Bank of Australia and for several months now, it has made clear that they won’t be increased until the outlook for employment and inflation improves.

In recent statements, the RBA has said these economic targets are unlikely to be met for at least another three years. So while some might feel a sense of urgency to lock in a fixed rate, there’s a good chance low mortgage rates will be with us for some time.

What happens once the fixed term ends?

Once a fixed term ends, your home loan will automatically roll over to a standard variable rate. This is what’s known as a revert rate and it can be substantially higher than the one you were offered to begin with.

After a year or more of making consistent repayments, a sudden hike can deliver quite the shock. To avoid this, it’s a good idea to speak with your bank or lender before the fixed term expires to see if you can negotiate a better deal.

This might involve applying to re-fix (at your lender’s new rate) or switching over to a more attractive variable rate. And if the offers on the table aren’t competitive, there’s always the option to refinance to another lender.

Will I have the same features?

One of the big advantages that variable rate loans have over fixed ones is that they tend to offer more features. Many fixed rate loans don’t come with a redraw facility or offset account, so you’ll need to weigh your options carefully if those are important to you.

Some also limit the amount of extra repayments you can make by applying an annual cap (after which fees are incurred) or restricting them altogether. This can be a big impediment, especially if you find yourself with some extra cash you want to put towards your loan.

Fixed rate home loans also tend to charge higher switch and break costs, so if you find a better deal elsewhere and want to refinance during your fixed term, you could be looking at a hefty penalty.

Can I split my loan?

If you can’t decide between the flexibility of a variable rate and the security of a fixed rate, there’s also the option to split your loan. This takes your home loan and divides it into two smaller loan accounts — one fixed and the other variable.

How you structure your loan will be up to you. Splitting your loan will also give you access to the features and flexibility typically associated with a variable rate loan, plus let you take advantage of any interest rate drops, if only partially. 

For information about the direction mortgages are heading, visit our home loans statistics page. And if you're intent on locking in a low fixed rate, head over to our fixed rate comparison page to browse what’s currently available.