Fixed vs Floating Interest Rate

When you start to make more money in life, you will be faced with the opportunity to own your home using a home loan. Getting a home loan is not a difficult task nowadays, but choosing between a fixed and floating interest rate can be difficult choice. It’s important that you consider both, weigh the pros and cons and then make an informed decision.

If you are completely new to the field and have no idea what these terms mean, read on to get a basic idea :

What is Fixed Interest Rate?

If you choose fixed interest rate, it means that you will be repaying the home loan in fixed equal instalments throughout the loan term. The main highlight of this type of interest rate is that it is unaffected by market fluctuations. If you are very particular about budgeting and prefer to plan out your repayment schedule with a fixed monthly amount, this type of interest rate would interest you more as it gives a sense of certainty. The main disadvantage of fixed interest rate is that that they are usually 1-2.5 percentage points higher than the floating rate home loan. Another drawback is that in case the interest rate decreases, you will not be able to take advantage of the reduced rates and will have to continue paying the same amount. It is important that you check the fine print and see whether the fixed rate home loan is fixed for the entire tenure or only for a few years. If you see the economic scenario promising a rise in interest rates in the near future, fixed rates would be a better option

Benefits of Fixed Interest Rate

  • As the name suggests, the fixed interest rate remains constant for the entire loan tenure. This home loan interest rate doesn’t vary according to the rise and fall in the market.
  • Since this interest rate doesn’t fluctuate over time, you will have to pay a fixed monthly installment throughout the tenure. Therefore, you can easily and accurately plan your finances under this type of rate of interest.
  • It is the best option for people who are good at budgeting and prefer a fixed EMI schedule.
  • If the economic conditions indicate that there are chances of a rise in the interest rates in the future, this is the best option that a borrower should choose in order to ensure that he or she can continue to pay a smaller amount as interest.

Drawbacks of Fixed Interest Rate

  • The fixed interest rate is usually 1% to 2.5% higher than the floating interest rate offered by a bank or non-banking financing company (NBFC).
  • Even if the fixed interest rate reduces after an announcement from the Government or Reserve Bank of India (RBI), it doesn’t affect the loans already borrowed using the previous interest rate. The borrower will have to continue repayment at the higher interest rate even after a rate cut.
  • Many a times, the fixed rate of interest is only valid for a couple of years. In that case, once this period is over, the interest rate will get revised according to the ongoing rate. This might not be a beneficial plan in the long run.

Why choose a Fixed Interest Rate?

See the reasons you should go for this interest rate option mentioned below:

  • You prefer a fixed repayment schedule and are comfortable paying the current interest amount. You should ensure that your monthly installment isn’t more than 30% of your net monthly salary.
  • You foresee a rise in the interest rate in the future and, therefore, want to ensure that your interest amount doesn’t increase more than what you are currently paying. In such a scenario, the fixed interest rate can be used to lock in the current rate of interest being offered by the lending organisation.
  • In case there has been a recent decline in the interest rates and you are comfortable repaying your loan at this rate, you can opt for a fixed rate of interest while borrowing a loan.
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What is Floating Interest Rate?

As the name suggests, floating interest rate varies with the market scenario. If you opt for a home loan with a floating interest rate, it means that you will be subjected to a base rate and a floating element will be added. This means that if the base rate changes, the floating rate will also vary. The main highlight of floating interest rate is that they are cheaper than fixed interest rate. For example, if the fixed interest rate is 14% and floating interest rate is 11.5%, you will still be saving money even if the floating interest rate rises by 2.5% points. Further, even if the floating interest rate rises above the fixed rate, it will be temporary, and not for the entire tenure of the loan. The main drawback of floating interest rate is the fact that it is difficult to budget as it may change frequently. Planning your financials on a long term basis can be difficult with this type of interest rate.

Benefits of Floating Interest Rate

  • The floating interest rates offered by a bank or non-banking financing company is usually lower than the fixed rates it offers its customers. Therefore, it means that even if the floating interest rate increases, it can still be less than the previous fixed interest rate offered.
  • In case the floating interest rate exceeds the interest rate, it will not be for the entire loan tenure. There are chances that the floating rates might come down after a certain period of time.

Drawbacks of Floating Interest Rate

  • Due to the fluctuating nature of floating interest rates, the monthly installments of a particular amount of loan will vary throughout the entire loan tenure.
  • Attributed to the uneven monthly installments, it is very difficult to budget a loan with floating rate of interests.
  • Since it is not possible to have a fixed repayment schedule under this interest rate option, it can lead you to pay more than you are comfortable paying. This can, therefore, cause you to have less savings and no budget plan.

Why choose a Floating Interest Rate?

  • You can go for a floating interest rate for your loan when you apprehend that the rates might decrease in the future, thereby, reducing the total cost of the loan.
  • If you are looking to save a little in as floating rates are usually set 1% to 2.5% lower than the fixed interest rate offered by the same lending organisation
  • This type of interest rate usually suits people who do not possess enough insight regarding the market and, thus, want to stick to the market rates.

In conclusion, choosing the type of interest rate that you should go for is a personal choice. What works for one individual may not necessarily be the best choice for you. If you prefer to plan well ahead when it comes to your finances and not leave anything to chance, a fixed rate would be better suited to your needs. This, however, comes with a higher price. Before you make a decision, you must consider home loans or Personal loans with fixed and floating interest rates from different institutions. Go through the fine print and ensure that you choose one that you are most comfortable with.

News About Fixed vs Floating Interest Rate

  • Lakshmi Vilas Bank to Introduce New MCLR From 1 September 2018

    According to the recent reports, Lakshmi Vilas Bank has announced on 31 August 2018 to revise its Marginal Cost of funds-based Lending Rate (MCLR) effective from 1 September 2018. On 6 September, the bank observed a technical error in the computation of the MCLR. However, the rates have been revised afterward with effect from 1 September 2018. The overnight MCLR offered by Lakshmi Vilas Bank currently stands at 9.10% p.a. while the one-month MCLR is at 9.15% p.a. The 3-month MCLR that the bank is currently offering is 9.30% p.a. and the 6-month MCLR is at 9.45% p.a. The 1-year MCLR of Lakshmi Vilas Bank has been revised to stand at 9.75% p.a.

    14 September 2018

  • Karur Vysya Bank revises MCLR

    Karur Vysya Bank has revised the MCLR of the Bank and will be implemented starting August 07, 2018. This is after the Reserve Bank of India decided to increase the marginal cost of fund-based lending rate by 25 basis points in the third bi-monthly monetary policy statement for 2018-19. The lending rate now stands at 6.50 percent. The overnight MCLR and the one-month MCLR now stands at 8.55%. The three month, six month, and one year MCLR currently stand at 8.90%, 9.35% and 9.55% respectively.

    10 August 2018

  • Rs.10,000 crore G-secs purchased by RBI through OMO

    The Reserve Bank of India (RBI) has announced the purchase government securities (G-secs). The purchase has been made under Open Market Operations (OMO). The move was made after the assessment was made by the Reserve Bank of India of the prevailing liquidity solutions. The Reserve Bank of India is now planning to raise Rs.10,000 crore on 19th July. The bank is planning to do the same by multi-security auction which will be done using multiple price method. Security wise breakdown has not been provided by the bank yet. The announcement of results of the auction results will be made on the day of the issue. Participants should ensure that requisite amount of securities are available on their SGL on July 20 by 12 noon.

    19 July 2018

  • Fund management to be improved by RBI’s proposals on large loans

    A SBI study has said that the draft guidelines on loan system for delivery of bank credit made by the Reserve Bank of India will be very helpful in improving the intra-day fund management and liquidity planning by large borrowers. The draft made by the RBI specifies a minimum level of ‘loan component’ and a Credit Conversion Factor (CCF) that is mandatory. Borrowers are now required to manage short term liquidity and the working capital cycle. This move will also lead to the improvement in the management of short term and intra-day liquidity by banks. There is also a possibility for the development of term money market due to the withdrawals by customers under Working Capital Demand Loans.

    19 June 2018

  • MCLR rates raised by 5 bps by Syndicate Bank

    Syndicate bank has raised the marginal cost of funds based lending rate(MCLR) by 5 basis points(bps). The six month MCLR rate has now raised to 8.3 percent and the revised one-year MCLR rate now stands at 8.5 percent. The bank has said that the revised minimum lending rates will be effective from May 10.

    24 May 2018

  • All India Bank Retirees Federation has requested revised pension for bank retirees

    Although the inflation has gone up 10 times in the last 20 years, the basic pension for retired bank employees has not been revised since then. Therefore, the All India Bank Retirees Federation (AIBRF) has demanded that the union government look into revising the basic pension for bank retirees. As of now, the family pension in banking is 15% whereas in the government and RBI, it is 30%. In addition to revising the basic pension and raising the amount of family pension, the government has been requested to resolve all the pending issues.

    According to Mr. Deshpande, the President of AIBRF, the consolidated sum in pension funds of various banks is above Rs.12 lakh crore and has been increasing every year. Therefore, it should be easier for the banks to fulfill the demands of the AIBRF. There will likely be an increase in non-performing assets (NPAs) if the banks were privatised, according to S.C. Jain, the General Secretary of AIBRF. As it is, the banking sector is facing issues with growing NPAs at Rs.10 lakh crore which mostly belongs to corporate sectors.

    6 April 2018

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