Will a Fixed Rate Loan Always be the best Option?

Many people like the security of choosing a fixed rate loan. However, there are others that choose to avoid them. It is worth understanding what a fixed rate loan is so that you can decide whether it will be in your advantage to consider taking one out.

What Is a fixed rate loan?

A fixed rate loan is one where the rate of interest is fixed for a certain period. For some loans it could be fixed for the whole time, but most commonly it is fixed just for a certain period of time. These are most often mortgages, where the first few years could be on a fixed rate which then switch to a variable rate after this time. Borrowers will often have a choice between a fixed or variable rate in the case of a mortgage and so it is important to understand what the advantages and disadvantages of each are.

Advantages

With a fixed rate loan you will know exactly what interest you will be paying for the fixed rate period. This means that you will not have to worry at all about interest rates rising and what impact this might have on you. So, if you are worried that rates might go up, then this could be a good option to protect you from those rate rises. However, it is worth noting that it is really hard to predict whether rates might go up or down. If You feel that you will only just manage the repayments, then you may not be able to afford them if the rates go up and so this can protect you against this as well.

Disadvantages

It may seem that a fixed rate loan is really good, but there are some disadvantages too. Firstly, if the variable rates go down, then you will not be able to take advantage because you will be tied into a fixed rate. Even if the variable rates stay the same, you may still be paying more than you would have done with a variable rate as the fixed rates are often higher. Another possible problem is that you will often be tied in to a fixed rate. This means that you will not be able to move to another lender such as Omacl.co.uk if the rates become uncompetitive. So, if rates fall just as you start a five-year fixed rate deal, you could find that you will be paying a lot higher than necessary for a long time before you can switch lenders. If you are tied in there will be a way out but it will be costly. You will have to pay a fee and this could be very much more than you will save in interest by switching to another lender and so it is unlikely to be worth doing, but always worth looking at just in case.

Is it right for me?

It can therefore be difficult to know which option to choose. As it is very difficult to predict interest rate changes, then trying to guess whether they will go up or down is not wise. However, it is worth assuming they might go up and calculating whether you could afford the repayments if this is the case. If you think that you will struggle, then the safe thing to do is to take a fixed rate so that you can then guarantee that you will not have to pay more. Compare lenders though as their fixed rates will vary and some may not tie you in or may not charge you so much if you do want to swap lenders during the fixed rate period.

However, if you can manage the repayments easily and could still cope if rates went up then you might rather take a variable rate. You will always have the option of switching to another lender and fixing should you change your mind. You will, of course, risk having to repay more if rates do go up but you will also be able to pay less should rates fall. That is assuming that your lender puts down their rates of course. If the Bank of England base rate goes down, not all lenders will reduce their rate. However, you will not be tied in so you could switch to one that has come down or you could take out a tracker. A tracker will track the base rate and this means that when it falls, you will immediately start to pay less interest. However, if it goes up, you will immediately start paying more. However, most lenders will put their rates up almost immediately if the base rate rises anyway. You will need to decide what sort of risk you are willing to take and which loan type is most likely to suit your lifestyle and finances.

Should I be Scared of Getting into Debt if Rates are High?

If interest rates are high then it is not surprising that people are more wary of borrowing money. When the rates are high, borrowing will be more expensive and this could lead to repayments being higher and the total cost of the loan being higher as well. However, although rates may be high and loans expensive, it does not always mean that you should avoid borrowing.

What sorts of borrowing to avoid

Often debt is split into good and bad debt, with bad debt being the type that should be avoided. This can make it easier to understand that there is some debt that is okay and so we should not always be scared of it, but it is not always easy to know which type of debt you might have. This is because it depends on your situation. It is not possible to just say certain types of loan are good and others are bad, but it depends on what you are using the money for.

If you are borrowing for an emergency and have no other way of getting the money to pay a bill or buy food, this might be considered to be good debt. If you are borrowing to buy something that will improve your financial position in the future and you could not otherwise afford to buy, this could also be considered to be good debt. But there is a second factor as well.

You need to check that you will be able to afford to repay the debt. This could mean that you will need to compare lenders until you find one that has repayments that you can afford. Comparing lenders is always wise as you want to find the loan that offers the best value for money for you.  If you struggle to find one that you can afford, then you may need to think of a way that you will be able to change the items you are buying so that you can afford the repayments or you may even need to think of ways that you can earn more money.

So, you need to avoid loans which do not have a good purpose and that you cannot afford to repay.

What sorts of borrowing to consider

If rates are high, then you may feel that you should avid all borrowing. If you can avoid borrowing, then it will be cheaper and so if the things that you are considering buying are not necessary, then it might be wise to avoid getting them anyway. However, when it comes to buying things like university courses or houses then you may have to borrow money in order to afford them. These are usually considered good loans because they should help you to improve your situation financially in the long term and most people would not be able to afford the items without a loan.

You may feel though, that if rates are high, that you will not be wise to get them. However, this is a tricky decision. If rates are high, odds are that they might fall and so the loan may start to get cheaper. Also, the loans are long term both potentially lasting for thirty years and rates will fluctuate a lot in this time and so them starting high will not necessarily have any bearing on how things will continue in the future. Comparing loans and their rates can help you to keep rates down as well, as you will find that they will vary. If you check every so often, to see how your lender compares and switch to a cheaper one, then you will be able to keep your loan as cheap as possible.

Some borrowers will look at getting a fixed rate loan to help them to manage if rates go up even more. These will often be foxed for a certain period of time and they can often be at a rate slightly higher than the variable rate. The idea is that you will know exactly how much you will be expected to repay each month and therefore if the rate goes up you will be protected form that. Of course, there is always a risk that the rate may fall and you will not benefit from that. This can be a good idea if you feel that you will struggle to manage if the rate is any higher than it is at the moment.

So, whether rates are high or low, you should always be cautious when you are borrowing. Ensure that you are borrowing for a good purpose and that the loan you choose is right for you and competitive. By comparing prices you will be able to make sure that not be paying more than necessary but the cheapest may not be with the best lender so make sure that you are comparing value for money.