Finally, it seems that interest rates are on the way down, so what’s the best way to manage your mortgage? Fix, float, or a combo of both?
The pros and cons of fixed vs floating rate mortgages
Fixed rate mortgages
A fixed rate mortgage locks in an interest rate for a specific period of time, ranging from 6 months to 5 years. During this fixed term, your interest rate and repayments remain the same, regardless of market changes.
Fixed-rate mortgages offer predictability and protection from rate increases. Your repayments are consistent, making it easier to budget and manage your finances. And if interest rates rise, your rate stays the same, protecting you from increased repayments.
But if interest rates decrease, you’ll continue paying the higher fixed rate. And if you want to make an extra payment or pay off your mortgage early, you might have to pay an early repayment fee, especially when it comes to longer fixed term loans.
Floating rate mortgages
A floating rate mortgage, also known as a variable rate mortgage, means your interest rate can change with market conditions. This type of loan typically follows the Official Cash Rate (OCR) set by the Reserve Bank and adjusts accordingly. Floating-rate mortgages offer flexibility and potential savings. You can make additional payments or lump sum repayments whenever you like, without penalties. If interest rates fall your repayments could decrease, potentially saving you money.
Banks in NZ rely on keeping fixed rate business until the end of the term, so they compete more strongly on fixed-rate loans. Floating rates can be repaid at any time, which increases the risks for banks to manage their funding. This means floating rates are generally higher than fixed rates initially. Additionally, if interest rates rise, your repayments will too, which can affect your budget.
When to fix?
The right choice depends on your financial situation, risk tolerance, and plans for the future. But as a rule of thumb, if you value stability and predictable payments, then fixing is likely to be the best option for you. If you believe interest rates will go up during your term, consider opting for a longer term loan. If you believe interest rates will come down in the short term, or if you expect to sell your house in the near future, then choose a short term rate. Or consider splitting your loan across different fixed rate terms. This will reduce risk and give you some benefit from lower short term rates.
When interest rates are high, economists suggest that frequently fixing for shorter terms (like 6 months or 1 year) can often outperform long-term fixed and floating rates. This strategy offers stability and the chance to benefit from potential rate drops. With banks already reducing rates ahead of anticipated OCR cuts later this year, we expect to see more homeowners adopt this approach in the coming months.
When to float?
If you prefer the flexibility of making extra payments when you can afford to, interest rates are low and you anticipate that interest rates may decrease or remain stable, then floating might be a good option for you.
When making the decision though, consider how comfortable you are with potential rate fluctuations and whether you can handle higher repayments if rates do rise. And be sure to keep an eye on interest rate trends and economic forecasts.
The hybrid approach
If you’re looking for the best of both worlds, consider splitting your loan between a fixed and floating rate. This way, you can pay off part of your loan faster if you have extra cash while still enjoying predictable repayments for the rest of your loan.
Revolving credit mortgages and offset accounts are only available with floating rates. A revolving credit mortgage works like an overdraft, offering cash flow flexibility when needed, while an offset account reduces the interest on your loan by using the balance in your offset account for interest calculation purposes. Combining fixed-rate mortgages with floating-rate revolving credits or offset accounts will help you balance savings and flexibility.
Finding the right mortgage is just as important as finding the perfect home. Get it right, and you could save a lot over the life of your loan. Whether you’re buying a new property or renewing your mortgage, our team is here to help you secure the best rates and terms that fit your goals and lifestyle. Get in touch today to arrange a free, no-obligation chat with one of our advisers.