What is the Difference Between Fixed and Variable Loan Interest Rate?

A loan helps you cover planned and unplanned expenses. You can repay the amount in equated monthly installments, popularly known as EMIs. It consists of the principal amount and interest charges. Generally, lending institutions offer two types of interest rates - fixed and floating. Before applying for a loan, you must know which one will suit you best.

The type of interest rate that you should choose will depend on a number of variables, including your loan tenure, creditworthiness, budget, etc. Let's explore the differences between a variable-rate loan and a fixed-rate loan in more detail.
 

What is a fixed interest rate?

Simply put, a fixed interest rate is where you have to pay fixed monthly installments throughout the loan tenure. This means that the rate of interest remains unchanged despite market fluctuations. Given that you will have to pay the same EMIs until the loan term is complete, it is the perfect option in case you like to organise your monthly
budget properly.

Also Read: Mortgage Loan Interest Rate: Everything You Want to Know

Benefits of fixed interest rates

Here are some of the beneficial aspects of choosing a fixed interest rate:

• If you choose fixed interest rates, you will not have to worry about market fluctuations. Over the whole loan term, the interest rate remains steady.
• The calculation of the monthly EMI is a key component of loan repayment. To keep the financial planning and monthly budget on track, you must feel at ease with your monthly payments. Your EMI stays the same during the course of the loan because of the fixed interest rate.
• It is easy for you to determine your budget and organise your finances precisely. It is perfect for people who prefer to have a set monthly budget.
• The biggest benefit of a fixed interest rate is that it guarantees that you will continue to benefit from the same interest rate even if economic conditions point to future increases in interest rates.

What is a Floating or Variable Interest Rate?

These interest rates are unpredictable and can continually change in line with shifting market trends. Floating interest rates are determined by the benchmark rate or base rate of a financial institution, which is subject to adjustments on a quarterly or semi-annual basis. The floating rate on your property loan will fluctuate if these base rates change, which are set by the RBI rules. The RBI standards prohibit creditors from charging prepayment penalties, which is another benefit of choosing this interest rate.

Benefits of variable interest rates

Here are some of the advantages of choosing a floating interest rate:

• The main advantage of choosing a variable rate of interest is that lending institutions offer current interest rates than fixed interest rates.
• As the interest rate is variable, there is a potential that it will go down when the market rates drop. Hence, your repayment will become easier, and the total debt will be lower.
   

Also Read: How to Find the Best Personal Loan for You  

Key differences between fixed and floating interest rates

Here are the key distinctions between a fixed and variable interest rate:

Rate of interest

It is the most identical difference between the two. If you choose a fixed rate of interest, it will remain the same for the whole loan term, depending on the terms of your loan contract. In contrast, if you choose a variable interest rate, it fluctuates in accordance with market changes.
 

Low vs high-interest rates

If we compare the two, floating interest rates can be more beneficial for the borrower in the longer run than fixed rates.
 

Ways to decide

Depending on the state of the market, you can choose between a fixed and fluctuating interest rate. It is preferable to choose a floating interest rate in case you are positive about the state of the market and think that interest rates may decline in the future. On the other hand, if you are convinced by the interest rate offered by the lender, it is better to go with the fixed rate.
 

Prepayment penalty

Prepayment penalties are typically assessed for fixed-rate loans, although prepayment penalties for floating-rate loans are extremely unlikely. This is influenced by several variables, including the loan's term, whether you choose to prepay the loan, and more.
 

Conclusion

Hopefully, now you have a clear idea of the differences between fixed and floating interest rates. While applying for a loan, you can perform a comparative analysis and decide which interest rate suits you. While looking for a loan, you can always consider Hero FinCorp. We are committed to providing you value-based innovative products and services. We ensure a hassle-free process with minimal documentation. With Hero FinCorp, you get loans at competitive interest rates.

Frequently Asked Questions 

1. How does Interest Coverage Ratio affect loan decisions? 

Lenders use this interest coverage ratio to evaluate a borrower’s ability to repay debt, influencing loan approval and terms.