What is the interest rate?
Fixed or Variable Interest? In a mortgage loan, the Bank delivers an amount of capital agreed in the mortgage contract with the other contractual party. The latter must return that amount, together with some additional interests, who it will depend on the interest rate (fixed or variable) chosen by the parties.
The interest on the capital to be paid will be monitored and changed in each installment or annually.
It is worth mentioning that in Spain the system of interest account called French of constant installments is followed. With this system, what happens is that in the first years, the financial or interest burden is more important in the first half of the loan.
What is a variable rate loan?
The loan installment varies as the loan reform rate changes. The most common benchmark is the EURIBOR. In its mortgage version, it goes up or down monthly. It fits the market. Currently the EURIBOR is negative, approximately 0,25%, as of February 24, 2020. You can check the level of the EURIBOR by clicking here.
It is worth mentioning that during each period, the interest rate will not change until a new review agreed in the mortgage contract.
The uncertainty about the interest rate generates a risk for the parties, since the interest rate can be quantitatively increased in a very considerable way. This risk is transferred to the rights and assets of the borrowing party, since it responds personally, universally and jointly, if there are several debtors, (article 1911 CC).
How is the variable interest rate of the mortgage calculated?
Variable interest is made up of two elements:
- The index of referencia
- El differential, which the client and the Bank agree on.
The sum of these two points will give us the variable interest rate on which the monthly payment will be calculated.
The most common benchmark is the mortgage Euribor.
ADVANTAGES variable interest
- Initial fee is usually cheaper and accessible. In the first years, the parties are usually in a situation of capital shortage, and the choice of this interest rate could benefit them in the short term.
- Possible to extend the mortgage in a longer term.
- Lower commission.
DISADVANTAGES variable interest
- Instability. As the installments are not fixed, there is a certain risk of an unexpected and sudden increase in the interest rate.
- Extending the terms makes the loan more expensive.
- Negotiating the clauses of the contract is more complicated, especially in the differential, since the bank will look for an amount that is profitable.
What is a fixed rate mortgage?
The same interest rate applies throughout the entire mortgage loan. Therefore, the installments, which are usually monthly, will always be the same amount, since they will not depend on any type of reference, and crises in the financial market will not influence the amount owed.
Fixed interest advantages
- Stability
- Less expensive in the long run.
- Banks currently offer fairly affordable fixed interest rates for long terms.
- Simpler negotiation.
DISADVANTAGES fixed interest
- Monthly payments higher than variable interest loans, because they have a higher interest.
- More expensive opening commission and early repayment.
- More linked products.
- Shorter repayment terms
Can you change the type of loan?
You can change the interest rate on a secured mortgage loan. The methods to do it are by the novation of the mortgage contract, or by subrogation.
- La Novation: with this method, the structural parameters of the mortgage are changed, so that the conditions are changed. If we want to modify a loan that is at a variable interest rate, and we want to transfer it to a fixed one, wanting to maintain the bank, we must resort to novation. This will require a series of expenses for the borrower, since it is very likely that the Bank will charge a novation commission.
- Surrogacy: It is another system to change the interest rate, and at the same time transfer the loan to another bank, that is, there would be a subrogation of the mortgage credit between banks. To obtain this change, a notarial subrogation process is necessary, which entails some expenses. Once the decision has been made, ask for a budget for these expenses. Once we have the budget, we must compare what is the benefit that we can obtain by reducing the interest rate.
Frequently asked questions about FIXED interest or VARIABLE interest
It depends on the conditions of the loan and the lender. Some allow this conversion, but it may involve additional costs.
It doesn't affect at all. Payments and interest rate remain the same regardless of changes in the market.
It is determined by adding a fixed margin to the benchmark index. For example, Euribor + 1%. If the Euribor changes, the total interest rate will also change.
The main advantage is predictability; you know exactly how much you will pay or receive during the entire period of the loan or investment.
Offers the ability to benefit from declining interest rates, which can result in lower payments when market rates decline.
It is preferable if you are looking for stability and security, especially in an environment of increasing rates or if you have a tight budget that cannot afford variable payments.
Fixed interest is an interest rate that remains constant for the entire duration of the loan or deposit, without changes or fluctuations.
Variable interest is an interest rate that can change over time, generally based on an index or reference rate such as the Euribor.
The main risk is that if market interest rates rise, so will your loan payments, which can make your financial management more difficult.
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