When you started making more money in life, you may want to own your dream home. Purchasing a home is a major financial decision that many people will make. Being a very big investment, most people are not being able to pay the full cost of a home in a single payment. This is where a home loan makes an entry, Getting a home loan is very easy nowadays. It gives an ability to the person to buy their dream home for which the borrower will repay the loan and interest in Equated Monthly Installments (EMI). Choosing the best option that is suitable for you is always a complex task. One should do proper research before rushing into something. While applying for a home loan, the first thing that will come to the mind of the applicants is whether to go for fixed interest rate or floating interest rate. This is because these two types of interest rates come with their own set of benefits and drawbacks. Let us check which option is better for you.
Differences between Fixed and Floating Interest Rates:
What is a Fixed Interest Rate home loan?
A fixed interest rate Home Loan is a home loan where the interest rate is fixed over the entire period of the loan. The main concept of this type of interest rate is that it is unaffected by market fluctuations. With this type of scheme, maximum of your EMIs will go towards repaying the interest while the principal is paid later on in the tenure. 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 is suitable for you because it gives a sense of certainty.
- The fixed interest rate remains constant for the entire loan tenure irrespective of market conditions. This helps you to accurately budget your income.
- It is the best option for people who are good at budgeting and prefer a fixed EMI schedule that doesn’t fluctuate.
- It brings a sense of security and certainty.
- The fixed interest rate is mostly 1% to 2.5% higher than the floating interest rate offered by a bank or NBFCs.
- Even if the fixed interest rate decreases after an announcement from the Government or RBI, the borrower will not be able to avail of the benefits and have to continue repayment at the higher interest rate even after a rate cut.
- Most of the times, the fixed rate of interest is only valid for a few 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 profitable plan in the long run.
- A high fixed rate of interest can sometimes be too taxing on your income, leaving you with very little savings.
Why choose a Fixed Interest Rate?
- You want a fixed repayment schedule and are comfortable paying the current interest amount. You must ensure that your EMI is not more than 30% of your net monthly salary.
- Fixed rates are a better option if the market conditions are conducive to rising interest rates in the near future. It can be used to lock in the current rate of interest being offered by the Bank.
- In case there has been a recent decline in the interest rates and you are comfortable repaying your loan at this rate, you can choose a fixed rate of interest while borrowing a loan.
What is a Floating Interest Rate Home Loan?
As the name suggests, floating interest rate varies with respect to market conditions. If you choose a home loan with a floating interest rate, it means that you will be subjected to a base rate and a floating component will be added. So, if the base rate varies, the floating rate will also change.
- The biggest advantage of floating rate home loans is that they are cheaper than fixed interest rates. At present, floating interest rates average around 11%, a good 2.5% less compared to the average fixed interest rate.
- Even if the floating rate goes higher than the fixed rate, it will not be for the entire tenure and very likely that it will fall in the near future.
- You will probably be able to save more with this type of interest rate.
- Deal for short-term loans.
- Due to the fluctuating nature of floating interest rates, the EMIs of a particular amount of the loan will change throughout the entire loan tenure.
- Because of the uneven EMIs, it becomes very difficult to budget a loan with a floating rate of interests.
- Since it is impossible 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 no budget plan and fewer savings.
Why choose a Floating Interest Rate?
- You can opt for a floating interest rate for your loan when it is likely 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 bank.
- This type of interest rate is suitable for the people who do not possess enough insight regarding the market and, thus, want to stick to the market rates.
Both floating interest and fixed interest rates come with their own set of benefits and drawbacks. It is up to the applicant to decide what suits him or her the best. Before taking a decision, it is advisable for the applicant to compare home loans with fixed and floating rates from different financial institutions. If certainty and security are the main considerations, a fixed rate home loan will be the best. This, however, comes with a higher price. Before going for a Home Loan, you need to get your priorities right and opt an interest scheme that will suit your style of financial management. Go through the fine print and make sure that you choose one that you are most comfortable with.