How to Choose Between Fixed and Floating Interest Rates for Personal Loans

When individuals apply for a Personal Loan, they usually pay excessive attention to the loan amount, repayment tenure, interest rate, and other fees levied by the Banks. While availing a Personal Loan, you get an option to select between a Personal Loan that comes with a fixed interest rate or a floating interest rate.

Personal loans usually require you to repay EMIs for multiple years; hence, it is crucial to decide wisely. However, before selecting between the two, you must learn about floating and fixed interest rates, their benefits, and what makes them suitable for different individuals.

Understanding a Fixed Interest Rate

Under a fixed interest rate of a Personal Loan, the interest charged from individuals stays at a constant rate for the complete loan tenure. Borrowers get to check their fixed monthly income as they need to pay EMI under fixed interest rates at certain periods and, hence, plan all their finances accordingly. However, the fixed rate of interest is usually set at an increased margin of 1 – 2% against flexible rates.

Furthermore, under the fixed interest rate of Personal Loans, the first few years of repayment are utilised to cover the interest part of the loan and not the principal loan amount. Hence, a gradual shift occurs to the principal amount in the later years of the tenure.

Benefits of Fixed Interest Rates

Individuals who are willing to opt for fixed interest rates for their Personal Loans can enjoy the following benefits:

The rate of interest stays constant throughout the repayment period, regardless of any fluctuations in the interest rate regimes.
Applying for a fixed-interest rate Personal Loan is advantageous in a rising interest rate regime when the broader market interest rates, repo rates and loan rates are increasing. Hence, borrowers need not worry about the rising interest rate.
Borrowers applying for a fixed interest rate with their Personal Loans enjoy a sense of certainty and security because it becomes easier for them to handle their finances as the EMI amount doesn’t change.

Understanding Floating Interest Rates

In Personal Loans with floating interest rates, the rate of interest stands subject to periodic revisions due to fluctuations in the repo rate, which is a benchmark established by the RBI. In floating interest rates, lenders create a margin for the rate and acknowledge the rate of interest, which is known as the Repo Linked Lending Rate or RLLR. Hence, with any fluctuations in the repo rate, there is a change in your rate of interest applicable to the Personal Loan.

Benefits of Floating Interest Rates

A Personal Loan with a floating interest rate comes with the following benefits for the borrowers:

The interest rates are lower for a Personal Loan with floating interest rates than fixed interest rates.
Availing of a Personal Loan at a floating rate of interest is beneficial during a decreasing interest rate regime. Hence, when the repo rates, loan rates and broader market interest rates fall, borrowers get to save money because of the reduction in interest cost.
A floating interest rate also saves borrowers from incurring prepayment fees on foreclosure or prepayment of their Personal Loan.

Select Between Fixed and Floating Interest Rates: Factors to Consider

A borrower applying for a Personal Loan might be confused between selecting a floating and fixed interest rate. The key factors listed below must be considered while selecting between the two:

Repayment: If you select a short-term tenure, a floating rate might be more advantageous as you can get benefits out of any decrease in the rates. However, for longer tenure, a fixed interest rate offers better peace of mind and financial stability.

Risk tolerance: Fixed rates of interest are highly suggested to people who prefer stability and want to avoid dealing with market uncertainty. However, for anyone who is comfortable with certain risks and is willing to save money with falling rates, a flexible interest rate might be more suitable.

Present economic conditions: If the market trends represent a rise in the interest rates, preferring a fixed rate is more beneficial. On the other hand, a floating rate might help you save money when the rates are expected to fall.

Financial goals: Fixed rates are highly suitable for borrowers who want financial stability, such as people with a fixed monthly income. A floating interest rate is attractive for people looking for potential savings and can help them manage fluctuations in their EMI.

Fixed vs. Floating Interest Rates

It stands ideal for the borrowers to select a fixed interest rate under the following situation:

If the borrower is not ready to encounter risks associated with fluctuations in market trends, considering fixed interest rates is a better option.

When the borrower wishes to maintain their initial EMI and total repayment liability without changes to the repayment schedule.

Present economic conditions: If the market trends represent a rise in the interest rates, preferring a fixed rate is more beneficial. On the other hand, a floating rate might help you save money when the rates are expected to fall.

Fixed interest rates also promote better financial planning for the borrowers as the repayment period does not change.

However, the floating rates of interest are suitable in the following circumstances:

Borrowers realise a trend of decrease in repo rate. It maintains the repayment liability as the interest levied on the loan decreases over time.

Borrowers seek a potential income increase, preferring to prepay their loan liability, saving them both on the prepayment fees and repayment amount.

Selecting a better alternative between floating and fixed interest rates depends on your financial convenience when applying for a Personal Loan.

Summing up

Most Personal Loan borrowers select a floating rate of interest over a fixed one. However, as you can see, there are benefits for both of them. Ultimately, the final decision is the borrower's. Hence, they must carefully acknowledge the benefits and other details by making an in-depth comparison online. Selecting between a fixed and a floating interest rate also depends on multiple factors, such as loan repayment period, financial situation, and risk appetite.

Kotak Mahindra Bank offers you convenience with low-interest Personal Loans followed by multiple benefits and features. For those prioritising stability, Kotak Mahindra Bank offers a fixed interest rate for peace of mind with predictable repayment.

Ready to choose the right interest rate for your needs? Apply for a Kotak Personal Loan today and explore your options!