Variable Home Loan Rates: Everything You Need To Know

Big Four variable rates

Credit unions and smaller banks

Online lenders

Official interest rate rises tend to inspire a collective groan across Australian households, because they usually lead to more expensive home loan repayments. But what exactly causes rates to go up or down?

The Reserve Bank of Australia (RBA) determines what’s known as the target ‘cash rate’ — the interest rate that commercial banks pay on the money they borrow. This, in turn, sets the scene for banks’ rate rises or falls, although the actual rates offered by lenders vary because they’re competing for customers.

The RBA makes decisions independent of the Government. Its goal in setting rates is to maintain stability, employment and economic prosperity: it does so by seeking to control inflation. The RBA’s board meets regularly to discuss monetary policy, which can result in: no change to rates; lowering the cash rate to stimulate borrowing and spending; or raising rates in an effort to cap inflation.

How often does the rate change? It depends on economic conditions. For example, in the wake of the COVID-19 pandemic and the economic uncertainty it created, the RBA cut the cash rate from 0.25% to 0.10% in November of 2020 and that rate didn’t change for more than a year. Then a rate increase of 0.25% was announced in May of 2022, followed by eight subsequent increases throughout this year in response to high inflation, bringing the cash rate to 3.1% today.

When announcing a rate increase in November, the RBA  flagged potential further rises to reduce inflation: “The Board expects to increase interest rates further over the period ahead. It is closely monitoring the global economy, household spending and wage and price-setting behaviour.”

Compared to a fixed interest rate that locks you in to a certain rate for a set period, a variable interest rate makes it possible to reap the rewards of rate decreases as they happen — making it easier to get ahead on payments and pay off your loan faster.

Licensed mortgage broker Chris Bates, who has helped more than 500 Australian families buy a home or investment property through his firm Wealthful, and also shares advice on property investing via his podcast ‘The elephant in the room’, said variable rates tended to be lower and come with sought-after features.

“Variable rate products are traditionally lower than fixed-rate products, meaning that in the immediate future, you will pay less interest on your loans,” Bates said.

“In a situation as we are currently where potentially the cash rate may come down towards the end of 2023, being on a variable rate means that you will be able to benefit from the reducing cash rate, whereas on fixed, you are locked into that rate until the term ends.

“With variable rate products, you are also able to make unlimited repayments whereas with fixed products, there is a limit to the additional amounts you can pay without incurring a break costs.

“Finally, variable products allow you to attach an offset account to the loan whereas fixed rate loans generally do not.”

Choosing a variable rate means you need to be prepared for change, and the financial implications of potential rate rises on your mortgage payments and your cost of living. The uncertainty of a variable rate can be hard to swallow for many people.

Chris Bates said home buyers that have a cash buffer and believe their income will rise in the future should feel confident about being able to manage this variability.

“A cash buffer acts as a safety net and means that any increase in your ongoing commitments (for example loan repayments) can be met over this period whilst things sort themselves out,” he said.

“This, combined with the understanding that your income is going to increase eventually, means that even if you are currently in a tight situation, you can have confidence that you will eventually get out of it.”

Other strategies that Chris recommends to manage rate rises include budgeting, refinancing and seeking opportunities to improve your income-earning capacity.

“Review your budget and look to minimise unnecessary spending: cash flow would be the biggest issue especially with a lot of people coming off fixed rates next year,” he says.

“Review and refinance your home loan regularly to achieve a better rate and to help reset your loan term. This will assist with your cash flow and any surplus can be deposited into an offset account attached to your home loans to further save on interest, whilst allowing you to build that buffer.”

Key factors to keep in mind as you search for a new or upgraded variable home loan rate product include:

• LVR: Some lenders offer different/discounted variable rates depending on the loan-to-value ratio, which is an expression of your loan amount divided by the valuation of the property.
• Interest rate: Look for a competitive rate, calculate how much you’ll have to pay and your capacity to save in case of rate rises, and also consider any costs associated with changing or moving your loan in future.
• Comparison rate: This figure represents the interest rate plus most fees associated with the loan in one number, which may give you a better overall indication of costs.
• Loan features: Many variable loans offer offset accounts, redraw facilities and extra payments which can all help you pay off loans sooner and shorten the length of your loan. If access to these features results in having to pay a higher interest rate, work out exactly which features are “must-haves” and which you can live without.
• Additional features: Consider the broader benefits of choosing a particular lender including any perks of packaging products (e.g., also signing up for a deposit account or credit card), as well as what the lender is like to deal with and their loan management tools.

Bates said it may be possible to negotiate a lower variable rate than what is advertised: more so if you’re dealing with a major bank.

“If already with that bank, it would be worth giving them a call and mention that your current rates are higher than what is advertised and to ask the bank to review your rate or risk losing yourself as a client.”

He said engaging a professional with connections in the market could also pay off: “Generally though, brokers are able to negotiate better discounts than what the public have access to.”

Around every two years is the ideal time to consider negotiating or switching your variable rate home loan, according to Bates.

“Banks traditionally impose a loyalty tax on their existing clientele, and offer better rates to new clients in the hope of getting more business. This is why it is important to review your situation regularly,” he said.