Fixed vs Variable Interest Rates: What’s the Difference?

For New Zealanders taking out a new personal loan, an important decision to make is deciding whether to take a fixed or variable (otherwise known as floating) interest rate. The option you choose can have implications on your repayments, the flexibility of your loan, and the overall cost. Alongside the fees you’re charged, your interest rate is likely to be the biggest driver of the overall cost of your loan.

Here, we’ll explain the key differences between fixed and floating loans and how to choose the appropriate option for you. Not all lenders will give you the option, but in that case, it may be part of your overall decision about which lender is the best fit for you.

What is a fixed interest rate?

When someone talks about a fixed interest rate, they’re referring to an interest rate that stays the same for the entire time you have a loan, or for an agreed portion of that loan. When you have a fixed interest rate, your repayment stays the same each week, fortnight or month, regardless of what happens in the market.

When you have a home loan, you’ll often fix the rate for a period of time and then “refix” for a different rate at the end of that. Personal loans are shorter, so when you fix a personal loan interest rate, you’ll usually fix it for the entire loan term.

Fixed rates are common for New Zealand personal loans and vehicle finance. They offer certainty and simplicity because you know what you’ll have to pay each time you make a repayment, and you can ensure there is space in your budget.

What is a variable interest rate?

A variable rate, which you might also hear called a floating rate, is one that moves depending on market conditions. This means that your repayment won’t necessarily be the same from one month to the next.

This isn’t common for personal loans, which are generally offered with a fixed interest rate. It is a common option for home loans, though – although not as popular in New Zealand as in Australia. If you’re borrowing for something like a car via a home loan top-up, you may have the choice of a variable rate for that loan.

Key differences: fixed vs variable interest rates

There are a number of important differences that it helps to understand if you’re deciding what sort of interest rate might be right for you.

Certainty

Fixed rates mean you’ll pay the same repayment amount every week, fortnight or month for the period of your loan, or for the fixed term you’ve agreed to. Variable rates, on the other hand, can rise and fall, which means your repayment amount can change. This means that fixed rates tend to suit people better if they need to know exactly what they have to pay in the future.

Flexibility 

When you have a floating rate, you’re often able to make additional payments whenever you like, without any penalty. Borrowers with a fixed rate may have to pay fees if they want to pay their loan off more quickly. If paying off your loan fast is important to you, you may want a variable rate to give you the freedom to do so.

Interest rate level 

Depending on what’s happening in the market, floating rates could be lower or higher than fixed rates. Over the long term, a fixed rate may be significantly cheaper if rates rise, but it could prove more expensive if they fall sharply.

Risk  

When you have a variable rate, there’s a risk that your repayments will increase. Variable rates are driven by factors like what’s happening with the official cash rate and on wholesale markets. Fixed rates have the risk that you may miss out on savings if market rates fall during the time you’re locked in. Borrowers are often told to consider their own circumstances and the importance they place on certainty when deciding what’s appropriate for them.

Loan term 

Fixed rates are usually for a defined period. If you’re borrowing for a personal or vehicle loan, that may typically be anything from 12 to 84 months. Variable rates may come with more flexibility in loan terms. Again, this is a situation where it’s important to think about your individual circumstances and what will be a suitable fit for you. We can help you to look at your options.

Which is better for your situation?

Choose a fixed rate if:

• You want consistent, predictable repayments every week or fortnight. This may be particularly important for people who are on a tight budget without much room to absorb higher repayments.
• You are concerned about interest rates rising during your loan term. No one can say for sure exactly what lies ahead for interest rates, but you may get a sense from reading market commentary.
• You prefer simplicity, knowing exactly what you owe from day one. There’s no guesswork about what lies ahead when you take a fixed rate.

Choose a variable rate if:

• You want the flexibility to make extra repayments without penalty. You can usually pay a floating rate loan off more quickly without the fees that might be charged with repaying or reducing a fixed-rate loan early.
• You believe interest rates will fall during your loan term. Again, this is hard to be definitive about, but you may be able to get a sense of where the market is heading.
• You have a shorter loan term and are comfortable with some rate movement.
• You don't mind some variability in your monthly repayments.
  
  

Frequently Asked Questions (FAQs)

Is a fixed or variable interest rate better for a personal loan in NZ?

Most personal loans are offered with fixed interest rates. We can help you to look at what might be a suitable fit for you.

Can I pay off a fixed-rate loan early in New Zealand? 

You often can, but you may have to pay some additional fees.

What happens when my fixed rate term ends?

Often, a personal loan will have a fixed rate until the end of the period of time in which you are meant to have paid it off. If it’s only for a portion of your loan term, you’ll have to refix at whatever the prevailing rate is at the time, or stay on a variable rate if that is an option.

Do variable interest rates change automatically in NZ?

It depends on the lender. Lenders make decisions on their rates based on a number of factors, including what wholesale markets and the official cash rate are doing.

Are there penalties for switching from a fixed to a variable rate?

There may be. We can help you to understand this.

Do you have interest rate questions?

We’re here to help with all your personal lending needs. If you’d like to talk about what loan structure might suit you best, or what interest rate you might pay, get in touch with the team at better finance™ today.

Disclaimer: Please note that the content provided in this article is intended as an overview and as general information only. While care is taken to ensure accuracy and reliability, the information provided is subject to continuous change and may not reflect current developments or address your situation. Before making any decisions based on the information provided in this article, please use your discretion and seek independent guidance.