If you’re in the market for a home loan, you may be confused between variable and fixed rates. In the current environment of rising interest rates, fixing your interest rate may protect you from rate hikes for a period of time. On the flip side, you may lose out if the interest rates fall, as you’ll continue paying your mortgage at the rate you fixed. Refinancing to another rate may be possible, but exiting a fixed-rate home loan before the fixed period expires may be expensive owing to the break costs involved. Interestingly, there’s another option that you may want to consider, known as a split-rate home loan.
What is a split home loan?
A split loan allows you to divide your home loan into fixed and variable components. With this type of loan, you can assign a portion of your loan to a fixed rate and the remaining amount to a variable rate. This allows you to enjoy the security of a fixed rate while also benefiting from the flexibility a variable rate provides.
Let’s understand this better with Sam’s example, who wants to borrow $600,000 for a new home. Even though Sam prefers the security of a fixed-rate mortgage, he also desires the flexibility of a variable-rate mortgage. His mortgage broker suggests that Sam splits the loan.
Sam likes the idea and assigns 50% of his home loan to a fixed rate, giving him predictable monthly repayments. For the remaining 50%, he opts for a variable rate and gets access to some additional features, including an offset account linked to his mortgage. This enables Sam to reduce the interest payable on the variable portion of the loan, make extra repayments, and access redraw facilities when needed. Additionally, he can benefit from any rate drops while a part of his loan remains shielded from market fluctuations.
Why should you consider a split home loan?
The key reason for considering a split-rate loan is flexibility. With a split loan, you can customise the proportions to suit your needs – 50-50, 60-40, or whatever figure fits your vision. This arrangement allows you to plan your monthly budget better with some stability while also granting you the opportunity to capitalise on lower rates in future. Here’s a summary of some of the key benefits of splitting a home loan:
1. Reduced risk
Splitting your home loan helps you split your risk. While a variable home loan comes with a host of added features, it also brings along an uncertain future. By fixing a part of your loan, you know what you’ll be paying on some part of the loan and partially shield yourself from sudden rate increases.
2. Potential savings
Splitting your loan could yield some savings despite increasing interest rates. Allocating a portion of your loan to a fixed rate could save you a decent amount of money at a time when interest rates are constantly rising. Similarly, you’ll gain from a lower rate on a part of your loan if the variable rate were to reduce in future.
3. Access to better home loan features
Variable rate loans offer various features, such as offset accounts and redraw facilities, which could help you manage your loan better. An offset account is like a transaction account linked to your mortgage. The money you keep in this account is offset against your outstanding balance to reduce the interest you pay. Most variable-rate loans also allow you to make extra repayments towards your home loan, and you may be able to redraw these additional funds when needed.
Even though split-rate home loans offer some benefits, there are some pitfalls you should know about. For instance, the fees charged on a split-rate home loan might be higher than what you pay on a variable or fixed-rate home loan. Additionally, the variable portion of the loan is still subject to fluctuations in interest rates. If the rates were to rise significantly, your monthly repayments could increase substantially, impacting your overall affordability.
It is, therefore, essential to carefully evaluate your repayment capacity, taking potential rate hikes into account. A mortgage broker could help you determine the most suitable home loan option based on your specific requirements and financial goals.
By Vidhu Bajaj,
Hashching Content Writer