Fixed versus variable rate mortgages: what you need to know

Fixed or variable rate? It’s a question every homebuyer is faced with when obtaining a mortgage. If you’re unsure about which option is best for you, this primer should help.

What are fixed and variable rate mortgages?
Fixed rate mortgages are straightforward and involve paying the same monetary installments and interest rate for the duration of your term.

Variable rate mortgages, on the other hand, are a little more complicated. They’re tied to your bank’s prime rate, which may change over time.

Your bank’s prime rate is based on the target federal funds rate or the rate banks charge each other when they lend funds overnight. A quoted prime rate is typically the average of the prime rates charged by the major banks.

The target federal funds rate can increase or decrease several times per year. For example, in 2018, this rate changed four times. It rose by 0.25 percent each time, climbing from 1.25 percent in March to 2.50 percent in December.

Should you choose a fixed or variable rate mortgage?
Variable rate mortgages typically have a lower interest rate than fixed rate mortgages and historically, they’ve saved people money. However, fixed rate mortgages have the benefit of offering certainty and predictability. They make budgeting easier and take away any trepidation around potential interest rate hikes.

To better determine which mortgage type will cost you the least, see what leading economists are forecasting for the target federal funds rate. Just keep in mind that no one can reliably predict future fluctuations.