What loans have variable interest rates

Variable loan: mortgage lending with variable interest

What is a variable loan?

The variable loan is a mortgage loan with no fixed interest rate. The mortgage rates are regularly adjusted every 3 months to reflect the current market situation. The benchmark is the so-called three-month Euribor. This is the rate at which banks borrow money. It is a model that is suitable, for example, for bridging financing, for example if there is a prospect of a large sum in the near future from a property sale, inheritance or gifts.

What does the level of variable interest depend on?

Since the variable mortgage is construction financing without fixed interest rates, the interest rates are set again on a regular basis. They are based on the Euribor. The full length of this is called the “Euro Interbank Offered Rate”. This is one of the reference interest rates for time deposits. The banks determine the amount. The Euribor is the basis for numerous interest rate products. The three-month Euribor is chosen for mortgage lending with variable interest rates. The variable loan is also called Euribor loan due to this definition of the rules for adjusting interest rates.

What are the pros and cons of the variable loan?

The biggest advantage and at the same time biggest disadvantage of this mortgage loan is the high flexibility. One advantage of this is that you can repay part or all of your loan practically at any time. In the case of a classic annuity loan with a long-term fixed interest rate, this is not easy because you usually cannot get out of the mortgage agreement without a prepayment penalty. A disadvantage of flexibility is that you cannot plan interest payments over the long term and so the monthly burden can increase if interest rates rise.

Advantages of the variable loan

  • High flexibility: the loan can be repaid at any time with a 3-month notice period
  • Variable interest rates: Should they fall, your monthly burden will also be reduced

Disadvantages of the variable loan

  • Interest rate fluctuations make the monthly charges unpredictable

Who is a variable loan suitable for?

With its advantages and disadvantages, the variable loan is ideal in various situations. This includes transition phases for bridging financing, for example when the old apartment or house is to be sold and a large profit is expected from it. Or if the payment of a large sum of money is imminent in the foreseeable future and you want to cover this with a loan until then. In such cases, part of the loan amount is usually financed through a classic annuity loan and the other part through a variable loan, which is then redeemed by the incoming payment.

In principle, a builder or buyer of a property should not get nervous if he wants to finance with variable interest. Short-term increases in interest rates of 0.2 or 0.3 percentage points should not pose a problem for him.

Tip for prospective builders: Do you want to buy a plot of land first and don't know when to start building a house? Then the variable loan can be a smart way to go. In this way you can finance the property in the interim phase. As soon as construction is supposed to begin, you cancel the variable loan and go into long-term financing. An alternative to this can be mortgage lending with short fixed interest rates, if you know that house construction should start in a year or two.

Is There an Ideal Time for Variable Loans?

The variable loan is particularly useful when a phase with high construction interest comes to an end. Anyone who took out a long-term construction loan at the beginning of 2010 is probably still tied to an interest rate of over 4% today. By contrast, anyone who has been financing their property with variable interest rates since the beginning of 2010 has benefited almost continuously from falling interest rates. In this case, a variable loan is the financing with the more favorable conditions. Based on a study commissioned by him, the Starnberg-based financing consultant Kurt Neuwirth told the Handelsblatt that in 93% of the cases a variable interest rate was cheaper than real estate financing over 20 years.

However, market interest rates are currently at an all-time low, which is why we are currently advising to hedge interest rates for a long period of time if possible.

What are the costs of the variable loan?

The first and most important cost factor is of course a rising interest rate. So that the risk remains limited, you can set an interest rate cap. This so-called cap loan protects you from an incalculable risk. But the agreement costs a fee. In addition, banks typically charge a processing fee for the variable loan. This is regularly comparatively high, the rule is 1%. This means that the conditions for a variable loan are often less favorable than for a long-term loan. For example, a loan of more than € 320,000 usually incurs more than € 3,000 in fees - if you choose the loan for a bridging loan over 1 year, that's a considerable chunk. If your credit rating deteriorates over time, some banks also charge a credit rating surcharge - this also increases the cost of credit. Finally, even with a variable interest rate, the comparison is worthwhile in order to get the most favorable terms.

Can a variable loan be converted into a fixed rate loan?

The notice period for a variable loan is usually 3 months. Upon termination, the loan can be converted into a fixed-rate loan. This can be useful, for example, if borrowing rates are expected to rise significantly as a result of a change in the European Central Bank's monetary policy. However, the conversion costs a fee. With a term of 10 years, around 2% of the loan amount is usual, i.e. 0.2% per year. However, since you have already paid a fee for the variable loan beforehand, you had to spend more on fees than the borrower who opted for a long-term loan from the start.

The variable loan is particularly suitable for bridging loans. If you want to provide most or even all of the financing with this variant of mortgage lending, you must actively pursue the interest rate policy of the European Central Bank. If there is a phase of rising interest rates, you should pull the emergency brake and conclude a loan with a fixed interest rate as soon as possible.