When you borrow money, there is usually an interest rate for the borrowed money. Interest rates are taken by the lenders in order to make money on a loan themselves. Other fees may only cover their actual cost of the loan. Depending on the type of loan you have, there may be an opportunity to choose a fixed or variable interest rate. An example and where it is most common is mortgage loans.
Fixed or fixed interest rates, which it is also called quite often, are quite easy to understand really and something that we will look a little closer at. We will try to go through what the advantages and disadvantages of choosing this type are.
How does the fixed interest rate work?
If we take mortgages as an example, you have the choice to tie up the loan in 3 months, which is the same as what you call variable interest rates or you can tie the loan longer than that. If you choose to bind the loan for a longer period, you call it a fixed interest rate. It is usually possible to then bind the loan for 1 – 5 years and also 10 years.
During this time when the interest rate is fixed, the interest rate level will not change regardless of what happens. Usually, the interest rate is a little higher for each extra year you extra bind the loan. So the fixed interest rate is something quite simple really so the question is what is positive and what is not so good about choosing this.
Advantages and disadvantages
Something to be clear to you is that there is no universal answer to what to choose. Everything depends on what your own financial situation looks like as there are both advantages and disadvantages to both variable and fixed interest rates.
If you start with the disadvantages of a fixed interest rate, this is to a large extent that you will almost always have to pay a higher interest rate. Historically, it has been cheaper not to have fixed loans. Furthermore, it is not as easy to settle a fixed loan early.
This has to do with the lender also borrowing money for as long as you have borrowed from them and they also do this with a fixed interest rate. Thus, they have costs that would continue if you repay the loan early. It is possible to repay the loan, but you will most certainly be able to pay interest rate compensation, which is a compensation for precisely these future costs.