Fixed Vs Floating Rates Which One To Choose

If you are planning to take a home loan, one of the most important decisions you’ll have to make is choosing between a fixed interest rate and a floating interest rate. Since home loans typically span several years, even decades, selecting the right interest type can have a major impact on your monthly Equated Monthly Instalments (EMIs), total repayment amount, and financial planning. 

So, what exactly are fixed and floating interest rates? What are their advantages and disadvantages? Which one should you choose? Let’s explore these aspects in detail. 

What is a Fixed Interest Rate? 

A fixed interest rate means that the interest rate remains constant throughout the loan tenure. From the moment you take out the loan until the last EMI, your interest rate and monthly repayment amount will not change, regardless of fluctuations in the market or Reserve Bank of India (RBI) policies. 

Key Advantages of Fixed Interest Rate 

1. Stability and Predictability 

• Since your interest rate remains unchanged, you always know how much your EMI will be. 

• This makes it easier to plan your finances and stick to a budget. 

2. Protection from Market Volatility 

• If interest rates in the market increase, your fixed rate remains unaffected. 

• This ensures financial security, especially in uncertain economic conditions. 

3. Best for Risk-Averse Borrowers 

• If you do not want to take any risk regarding fluctuating EMIs, a fixed interest rate is the safest option. 

• It is particularly beneficial if you expect interest rates to rise in the future. 

Disadvantages of Fixed Interest Rate 

1. Higher Interest Rate 

• Fixed interest rates are usually 1.5% to 2% higher than floating interest rates offered at the same time. 

2. No Benefit from Market Rate Drops 

• Even if market interest rates fall, your interest rate remains the same, meaning you miss out on potential savings. 

3. Limited Availability for Long-Term Loans 

• Some lenders reset fixed interest rates after a few years, converting them into floating rates. 

• It’s crucial to check the loan agreement to understand if the interest rate is fixed for the entire tenure or only for an initial period. 

What is a Floating Interest Rate? 

A floating interest rate, also known as a variable interest rate, changes over time based on fluctuations in the financial market. It is usually tied to a benchmark rate set by the Reserve Bank of India (RBI) or the bank’s Marginal Cost of Funds-based Lending Rate (MCLR). 

If the benchmark rate increases, your loan interest rate increases, and if the benchmark rate decreases, your loan interest rate decreases accordingly. 

Key Advantages of Floating Interest Rate 

1. Lower Initial Interest Rates 

• Floating rates are generally cheaper than fixed rates, making EMIs more affordable at the start of the loan. 

2. Potential Cost Savings 

• If interest rates decrease over time, your EMI payments also reduce, helping you save money. 

• Even if rates increase temporarily, they are likely to decrease in the long run. 

3. No Prepayment Penalty 

• RBI regulations prohibit lenders from charging a prepayment penalty on floating rate loans, allowing borrowers to repay faster without extra costs. 

Disadvantages of Floating Interest Rate 

1. Uncertainty in EMIs 

• Since the interest rate fluctuates, your monthly EMI amount can change multiple times during the loan tenure. 

• This can make financial planning more difficult. 

2. Higher EMIs During Rate Hikes 

• If interest rates rise significantly, your EMI can become much higher than expected, increasing the overall cost of borrowing. 

3. Unsuitable for Short-Term Loans 

• If you are taking a loan for a short duration (e.g., 5 years), floating rates might not offer significant savings. 

• Short-term borrowers may find fixed rates more secure. 

Fixed vs Floating Interest Rate: A Side-by-Side Comparison 

How to Choose Between Fixed and Floating Interest Rate? 

Now that you understand both types of interest rates, the next step is to determine which one is better for your financial situation. Here are some factors to consider: 

1. Your Financial Stability & Budgeting Needs 

• Choose a fixed rate if you need stability and want to plan your monthly expenses without surprises. 

• Choose a floating rate if you are comfortable handling fluctuations and can adjust your budget accordingly. 

2. Market Conditions 

• If current interest rates are low but expected to rise, a fixed interest rate might be a better choice. 

• If interest rates are high but likely to drop, a floating rate could save you money in the long run. 

3. Loan Tenure 

• If your loan tenure is short (less than 7 years), a fixed interest rate may be preferable. 

• If your loan tenure is long (more than 10 years), a floating rate may help you benefit from market rate drops. 

4. Risk Appetite 

• If you prefer financial security and predictability, opt for a fixed rate. 

• If you can handle some risk and want potential savings, a floating rate is a better option. 

Can You Switch from Fixed to Floating Interest Rate (or Vice-Versa)? 

Yes, most lenders allow you to switch from a fixed to a floating interest rate and vice versa. However, they usually charge a conversion fee (up to 2% of the outstanding loan amount) for making the switch. 

Before switching, carefully evaluate: 

• The current interest rate trend 

• The conversion charges 

• The potential savings or costs over time 

Final Verdict: Which is Better – Fixed or Floating Rate? 

There is no one-size-fits-all answer to whether a fixed or floating interest rate is better. It entirely depends on your financial goals, market conditions, and risk tolerance. 

Choose Fixed Interest Rate If: 

• You need stability in EMIs 

• You want zero risk from market fluctuations 

• You prefer long-term financial planning 

Choose Floating Interest Rate If: 

• You expect interest rates to go down in the future 

• You are comfortable with some level of risk 

• You want to save money over a long tenure 

FAQs on Fixed vs. Floating Interest Rates 

1. What is the main difference between fixed and floating interest rates? 

A fixed interest rate remains constant throughout the loan tenure, while a floating rate changes based on market fluctuations. 

2. Which is cheaper: fixed or floating interest rate? 

Floating interest rates are usually lower than fixed rates, making them more cost-effective in the long run if market rates remain stable or decrease. 

3. Is a fixed interest rate better for long-term loans? 

Yes, fixed rates provide stability, making them ideal for borrowers who prefer predictable EMIs for long-term financial planning. 

4. Can I switch from a fixed to a floating interest rate or vice versa? 

Yes, most lenders allow switching between fixed and floating rates, but they may charge a conversion fee. 

5. When should I choose a floating interest rate? 

A floating rate is better if you expect market interest rates to decrease, as it can lower your overall loan cost over time. 

6. Does a floating interest rate affect my EMI? 

Yes, if the interest rate increases, your EMI may rise, and if it decreases, your EMI may reduce or your loan tenure may shorten. 

7. Which interest rate is better for home loans? 

It depends on your financial situation—fixed rates offer stability, while floating rates provide potential savings if market rates drop. 

 

Disclaimer: This page includes information that has been compiled from many sources and is only offered for informational purposes. Since this type of data might change over time, we cannot guarantee that the information supplied or included within it is accurate. It is anticipated that the user would confirm with the relevant source prior to taking any choices or actions.