Is a Fixed Rate Loan Better than a Variable Rate One?

It can be difficult to choose a loan at all and there are all sorts of decisions that we have to make in order to pick between them. If you are borrowing a large sum of money, then you may have the option of choosing a fixed or variable rate and this can be difficult to do. It is worth understanding what the two loan types are and what the main differences are between them, so that you can make a decision.

What are fixed rate loans

A fixed rate loan will have the same interest rate, either for the full term of the loan or for a certain period of it. This means that when you sign up you will know what the rate is and it will not change at all or until a certain time period is up. You will therefore know exactly how much you will have to repay each month as this will be fixed. You may be tied into the loan, meaning that if you want to swap to a variable rate during the fixed rate period you may have to pay a fee and if you want to swap to another lender you may have to pay an even larger fee. This will vary between lenders though and is something that you should check out before you sign any documents.

What are variable rate loans?

A variable rate loan will have an interest rate that can vary. This means that the lender can change it whenever they like. They will want to stay competitive though as you are normally not tied in so could move to a cheaper lender if they put theirs up to an unreasonable rate. However, if the Bank of England base rate goes up then they will probably put their rates up as most lenders would tend to do the same things. If the rates go down they may but their rates down but quite often lenders do not always do this. The exception to this is a tracker rate, which will track the base rate and then any rises or falls in the rate will be reflected immediately in what you are paying.

Advantages of fixed rate loans

Many people like the fixed rate loan because they know exactly how much they will be repaying, at least for a certain period anyway. If they are worried that rates going up will make it a struggle to make their repayments, then having a fixed rate will protect them from this. Often this is used on a mortgage for first time buyers who may not have lots of money to spare to repay their mortgage and they are concerned that rate increases may make it impossible for them to afford the repayments. If the interest rates do increase significantly then the fixed rate will be a good idea as it will protect the borrower from those increases.

Advantages of variable rate loans

Coming off a fixed rate loan to a variable rate can be difficult if the rate suddenly increases and this will not happen with a variable rate loan. A fixed rate loan can often be expensive as the interest rate is usually set higher than the variable rate. If the Bank of England base rates decrease, then those on a variable rate may find that they get to repay less interest but on a fixed rate this will not happen so you could end up paying a lot more than you would have done on a variable rate. You tend not to be tied in to a variable rate and therefore you can move to a different lender if you feel that you are paying too much and they are cheaper. You do need to be aware of any fees you might have to pay to do this.

It is quite tricky to decide though. It is almost impossible to predict interest rate change, particularly in the long term so you are making quite a gamble. You may feel that if rates are low then they are more likely to rise but if they are high, they are more likely to fall. However, it all depends on the term of the loan as to whether any significant changes are likely to happen before you repay it. If you want to feel secure in knowing you will be able afford the repayments then fixing the rate can be sensible, but if can afford to pay a bit more if necessary and feel you want to be able to take advantage of any possible reductions in rates then a variable rate might suit you better. Each individual is different though and so you will need to think about which will suit you the best considering the circumstances that you are in.

What are the Alternatives to Payday Loans?

Payday loans are an option that many people choose to take and find that it suits them well. However, when we are considering a loan, we should always think about what alternatives there are available. This should enable us to make the best decision that suits us and hopefully will give us the best value for money. So, considering all options is well worth it.

  • Do not buy the item – whenever we are borrowing money, it is always really important to make sure that we really need the item that we are spending the money on or that it will really improve our situation. Many loans, including payday loans, are designed for emergencies. This could perhaps be when we get a bill that we have no money to pay, when we need food and have spend our salary or if we need to replace a white good and have no other option available. Make sure that you think hard about whether you really need the item that you are buying.
  • Use savings – if you have any savings then it is best to use these to pay for the item rather than borrowing money. It can be hard to part with savings as they can give us security as we will know that we have something to fall back on. Alternatively, we may have been saving up for something specific and want to use the money for that. It is important to try to separate our emotions when we are making financial decisions.  By using savings, we will be spending far less money. This is because the interest that we get on savings is very small compared to what we pay out in interest and fees on a loan. Even if your savings are not enough, if you can use them towards the purchase, then you will end up paying less in costs for the money that you do borrow.
  • Save up money – if you can wait for the purchase then save up for it. Put some money aside each month and you will be able to buy it without borrowing. It is best to open a savings account and set up a direct debit to transfer money into it every time you get paid, so that you can start to build up the savings without really having to think. Putting money aside as soon as you get paid, will mean that you are less tempted to spend it on other things.
  • Borrow from people we know – borrowing form other people could be an option and often this is free. However, not everyone knows anyone that will lend to them and others feel that they would not be happy doing this. It is an option that you should consider though as it could be a lot cheaper. Do make sure though, that you sort out with the lender, what their expectations are with regards to repayment and then there will be less chance of you falling out over it,
  • Use credit card – a credit card can be very convenient and sometimes cheaper than a payday loan. However, you do need a good credit record and if you do need money in an emergency it may take too long to apply for a credit card compared to a payday loan. A credit card can be easier to manage as you can repay just a small amount each month and choose when to repay the outstanding balance. This flexibility suits a lot of people but it does mean that you will be paying a lot in interest and the longer you take to repay, the more expensive it will be. You may also have the debt outstanding for a long time which can cause stress for some people.
  • Use overdraft – an overdraft is often giving with a current account and you will be able to borrow up to a certain amount extra to what you hold in the account. If you have not arranged an overdraft or spend more than you are allowed, this is called an unauthorised overdraft. These are very expensive and if they have daily fees and interest they can soon become far more expensive than a payday loan and unlike payday loans they are not capped. So, you do need to be very careful. You will also need a good credit record to get an overdraft and if you do not, then a payday loan may be the only option available to you.

So, as you can see, there are many options and you may even be able to think of more. This means that you should take a lot of thought in deciding whether a payday loan is the best option for you. You need to consider how much the different options cost as well as how they work in order to decide which you think will give you the best value for money.