Should you fix your mortgage in the face of a looming rate rise?

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If you’re a mortgage holder, you’re not sitting − hopefully just metaphorically − in a very comfortable place this weekend.

All of our biggest lenders predict that on Tuesday there will be another interest rate increase. And it may well be backed up by a second one on Melbourne Cup Day.

That would take it to five for the year, when several months ago talk had turned comprehensively to cuts.

It would also mean a cash rate of 4.85 per cent … the highest since 2008.

So, today, we are discussing whether you should fix your home loan interest rate.

On a now fairly typical $700,000 loan, each rate rise adds more than $100 a month to repayments.

That’s of course on top of an escalation in the price of pretty much everything else and, particularly, petrol prices again.

That’s the issue at the centre of a “Hail Mary” mortgage fix.

And it’s about this time, crunch time for interest rates, that some borrowers’ thoughts finally turn to it. Many of us are stretched and stressed already financially, and fixing seems a good way, albeit a crisis way, of containing that.

Indeed, the latest intel from Finder is that nearly a third of mortgage holders (29 per cent) have now made the move to fully fix.

But fixing at this late stage may not be the best idea.

I asked Canstar to analyse the recent rate movements and guess what? Seventeen lenders have increased one or more of their fixed rates this month so far.

CBA last week did almost a double. Raised them by up to 0.48 of a percentage point in one whack.

That means that the economists at those institutions expect the Reserve to hike. But it also means that if you become uncomfortable enough to fix your rate, you will pay up there for whatever contract duration you choose.

Note, too, that you may well pay extra at the outset. The Canstar analysis also reveals that while the average two-year fixed rate is 6.36 per cent (a lot are higher), the average variable rate is only 6.02 per cent.

Yes, that difference is more than just one rate rise: 34 basis points.

But we could be there by early November, so you also need to consider the negative aspects of fixed rates ... aspects that many borrowers don’t consider enough.

Fixed rate loans, leaving aside that they let you lock in a rate, have two little-known drawbacks.

Firstly, you are not usually able to pay extra once you fix your home loan. This means that not only have you committed to that interest rate, you have committed to not saving any interest by making additional mortgage repayments.

Now, if you’ve been playing along at home with my columns for a while, you will know that you shouldn’t pay extra directly into a home loan anyway … any extra money should go instead into offset accounts alongside it.

An offset account lets you maintain full flexibility over, and full access to, your money. By contrast, relying on your lender allowing you to redraw over-payments, especially if you’ve found yourself in financial trouble, is risky.

Besides, an offset account should give you the same mathematical interest advantage.

Unless it is an offset account attached to a fixed loan, that is … fixed rate drawback number two.

It is very common for offset accounts attached to fixed-rate loans to either offset interest at only a portion of the interest rate or on a less-than dollar-for-dollar basis.

You may, for example, only make half the interest savings you otherwise would on a variable rate.

For all the reasons above, I have two strict rules of fixing:

1. Only ever fix half your mortgage – Finder’s survey reveals that 7 per cent of Aussies have cannily only committed to this extent.

2. Only ever fix for a maximum of three years. Interest rate expectations can turn on the head of a pin − as we’ve witnessed this year − and you don’t want to be more exposed to an inflexible rate than that.

But when rises are imminent is probably, sadly, the worst time to fix. So, what to do?

While 6.02 per cent might be an average variable interest rate right now, many Australians are paying 6.8 per cent or even higher.

Indeed, if they fixed, they might even slash their monthly repayments. But we’ve already talked about the other reasons fixing may not be a good idea.

A better alternative, at this stage of the game, is probably to chase the best variable deal … at least for half your mortgage.

This is currently hovering at about 5.8 per cent. And we’re not talking bargain-basement products here – these are quality, comparable loans to Australia’s largest lenders.

What do I mean by that? I would only look at loans that are backed by things called authorised deposit-taking institutions (ADIs).

Those words are important … they mean that the Australian government deposit guarantee applies to money you hold in their offset accounts.

Be strongly warned that non-bank lenders will often advertise that they have offset accounts but if they are not backed by an ADI, money you hold in these “offset accounts” simply goes into your loan and not only might it be unsafe if the lender gets into trouble, you are not guaranteed access if you require it.

Your money may simply “disappear”, in other words, be subsumed by your loan … which is not really the point if you are saving into offsets for other purposes and just getting the interest-saving halo effect.

(Not only are such loans all I’ll ever look at, they’re also all you’ll ever see me write about.)

So getting back to that 6.8 per cent, high interest rate versus the 5.8 per cent, best-of-borrowing-breed one.

If you notice, that’s the equivalent of four interest rate cuts. Potentially instantly.

I’ve also been saying the past couple of weeks that on a now-typical $700,000 mortgage, that represents a repayment saving each month of $434.

And might that be a better financial fix than a restrictive, official one?

Nicole Pedersen-McKinnon is a financial educator, the author of How to Get Mortgage-Free Like Me and the host of the Minted Kids podcast. You can find her on Facebook here and Instagram here.

Advice given in this article is general in nature and is not intended to influence readers’ decisions about investing or financial products. They should always seek their own professional advice that takes into account their own personal circumstances before making any financial decisions.