What is a variable rate car loan?
If you’re looking for a flexible car loan, you might want to consider a variable rate car loan.
A variable rate means that your repayments will change depending on whether the lender raises or lowers their interest rates.
A variable rate loan is a loan whose interest rate changes (or “varies”) according to market fluctuations. This means your interest rate can go up or down over the life of your loan.
Variable rate loans are more uncertain than fixed rate loans. This can make it difficult to budget for your interest payments, as you need to factor in potential rate hikes. If you are unprepared, you may find it difficult to keep up with refunds.
Advantages of variable rate auto credit
A potential benefit of an adjustable rate car loan is the possibility of lower interest rates. Some lenders may be willing to offer lower interest rates on variable rate loans because they like the flexibility of being able to raise the rate at a later stage if they need to.
The flexibility of variable rate auto loans is also an advantage for borrowers. Compared to fixed contracts, variable rate loans often make it easier for you to make additional repayments, adjust your repayment frequency (for example, monthly to fortnightly), repay the loan early or refinance you.
Disadvantages of Variable Rat Auto Loans
The main disadvantage of a variable rate loan is the possibility that interest rates will increase over the life of the loan, thus increasing your repayments compared to the initial rate. This is a risk you need to consider because a prolonged period of rising rates could put you under significant financial stress if you cannot keep up with rising rates.
Always read the terms and conditions of the loan, as different loans may have different policies regarding things like additional repayments or early exits.
Why do interest rates change?
An interest rate essentially reflects the cost of borrowing. The lender charges interest as insurance against the possibility of a borrower not being able to repay the money, as compensation. It helps keep the economy moving by encouraging lending and spending money.
The reason they may rise or fall is a result of this supply and demand for credit. An increase in the demand for money or credit will raise interest rates, while a decrease in the demand for credit will lower them. On the other hand, an increase in the supply of credit will reduce interest rates while a decrease in the supply of credit will increase them.
Lenders adjust interest rates on loans based on a variety of factors, but much of it comes down to the lender’s costs of funding the loan.
There are broader markets from which lenders draw the funds that allow them to make a loan, including the bond markets and day-to-day lending between banks, which are influenced by various economic and market forces. When the costs of sourcing these funds rise (for example, bond rates rise), lenders often pass these costs on to customers by raising the interest rates on the loans they make.
Central banks – such as the Australian RBA – have a big influence on this cost of funding by setting a cash rate, which is essentially the overnight lending rate between banks. The RBA sets this cash rate based on whether it thinks the economy needs to be stimulated (for example, by cutting interest rates to encourage spending and stimulate economic growth and employment) or slow (for example, by raising interest rates to curb high inflation).
When you take out a variable rate loan, you take the risk of riding those highs and lows.
Comments are closed.