Types of home loan by interest type

The most common types of home loans that people would know about are variable rate home loans or fixed rate home loans – but there are many more options than that. Check out the following options when considering what would best suit your home purchase:

A variable rate loan means that the interest rate will rise and fall (vary) over the period of your home loan. This may be in response to movements in the official cash rate or may simply be a business decision by your financial institution.

The main advantage of a variable rate loan is flexibility. While you must meet your minimum monthly repayment, you can usually pay more if you want to. There is also no break fee because there is no fixed term for you to break, so you can sell your property and move without the extra fees and charges that would apply to a fixed rate home loan.

The main disadvantage of a variable rate loan is that your minimum repayment amount may rise or fall at any time. If you are on a tight budget, this could be a real problem for you.

The fixed rates on home loans are reasonably low at present. A fixed rate loan simply means that the interest rate is “fixed” for a certain amount of time – commonly 1, 2,3, 4 or 5 years.

The main advantage of a fixed rate loan is that it gives you certainty of repayments over the fixed term; because the interest rate is guaranteed not to go up (or down) over the fixed period, it can be a way to budget your costs.

The main disadvantage of a fixed rate loan is the inflexibility: generally large additional payments cannot be made and you may face a “break fee” if you decide to sell before the end of the fixed term.

A split loan is simply a combination mortgage whereby part of your home loan is on a fixed rate and part is on a variable rate.

When choosing the type of loan that would suit, first home-buyers should consider how long they intend to stay in the home. If the intention is only for a short while, a variable loan is more flexible and doesn’t entail “break fees”. On the other hand, if the intention is to live in the home long term, a fixed rate may offer the certainty of repayments the borrower is looking for. Of course, a split loan can be a good option, providing both flexibility and security.

An interest-only home loan is one where only the interest is paid, rather than both the interest and the principal. Generally, an interest-only home loan will have a short time frame (between 1 – 5 years) before it reverts to a principal and interest loan.

This type of loan can be useful for investors who can claim the interest as a tax deduction, or buyers who only plan on holding onto the property for a few years before selling it. Interest-only home loans may not be a good idea for standard home-buyers simply looking to pay less on their weekly repayments, because the smaller the amount of loan principal that is paid off, the more overall interest you may end up paying on your loan over the years.

A line of credit is a loan borrowed against the equity in your home. It gives you the ability and flexibility to access the loan at any time, up to the agreed limit, and to pay money into the loan at any time. It is not generally a loan set up to purchase a property, but rather set up against the equity in an existing property.