When it comes to home loan interest rates, the advertised interest rate is what a lot of consumers will look at first and foremost – but it’s not the be-all and end-all of what a home loan can offer you! This is why it’s crucial to understand how interest rates work before looking for a home loan.
A home loan’s interest rate is the rate at which you’re charged interest on the money you’ve borrowed via your home loan. These rates are expressed annually (per annum or p.a.), but interest will typically be calculated daily and charged monthly to your home loan.
Home loan interest rates can be either fixed, variable or a split between the two – none of these options are objectively better or worse than the other, but one may be more suited to your needs and circumstances.
Lenders will typically calculate and set interest rates based on what it costs them to provide and maintain the home loan in question. This means that the interest charged on a home loan will typically cover the lender-side costs of the loan, plus a margin.
The cash rate is a number set by the Reserve Bank of Australia (RBA) which determines the interest payable on money borrowed and lent between lenders. The RBA sets the cash rate based on the current state of the Australian economy, including factors like recent economic growth, employment and inflation forecasts.
Strictly speaking, the cash rate only governs inter-lending borrowing, affecting the interest paid by lenders to other lenders on overnight loans taken out in the inter-lender money market. That being said, cash rate movements will usually have a direct impact on consumer-side interest rates, with a cash rate increase typically leading to higher interest rates across the board.
Mortgage interest rates generally change in line with the cash rate. The cash rate determines how much it costs for lenders to borrow money from each other, so the higher the cash rate, the higher their costs and the more they charge consumers to cover those costs.
That being said, lenders can and do move advertised interest rates at their will – while the market tends to see more interest rate movement around cash rate changes, lenders do make what are known as ‘out of cycle’ interest rate changes, in which the change is not caused by or related to a change in the cash rate.
Current interest rates rise when the cash rate does, because lenders are now having to pay more to borrow the funds they need to give their customers home loans. So, while they’re making more on their loans, they’re also spending more, meaning their profit margins haven’t shifted significantly.
You can compare advertised interest rates in a number of different ways – both against each other (to see which ones are higher or lower) and against their attached comparison rates (to see how they stack up against the ‘true’ cost of the loan).
By comparing different advertised rates against each other, you can see which home loans would come with bigger or smaller regular repayments (assuming everything else is the same across the loan scenarios).
By comparing an advertised rate against its comparison rate, you can see whether the advertised rate is more or less than the ‘true’ cost of the loan, and subsequently assess for yourself whether it’s a good deal or not. You can also compare comparison rates against each other in the same way you can compare advertised rates, to see which products have comparatively high or low rates versus the competition.
The value you get from a home loan isn’t just driven by a low interest rate – it also comes from the features attached to the home loan. This could include an offset account, a redraw facility or the ability to choose and change your repayment frequency.
You should also take a home loan’s fees into account. Home loans may come with a range of upfront and ongoing fees, including application and account-keeping fees. Most home loans will come with fees of some sort, but comparing one set of fees against another may help you decide which home loans offer genuine value.