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Beware don’t fix interest rate

However, although some say we may have a few more hikes this year, it’s unlikely to be anything dramatic.

The South African Reserve Bank will probably raise interest rates more slowly than it did in a tightening cycle six years ago due to the economy’s current slow growth, the bank said, dampening expectations of steep hikes in the repo rate. – Fin24 14 March, 2014

So for those intent on how to build a property investment portfolio that delivers steady returns – is fixing a good idea or not?

Fixed vs variable rates

vidth_money-408x264IGrow equips its members with the know-how of how to buy investment property providing expert advice on identifying and financing distressed properties and below market value properties.  With a variable rate repayments change with the interest rate whereas a fixed rate means the repayment stays the same for a set period of time.

To fix the rate on your property investments you’ll need to sign a new agreement for the fixed term with your bank, which could vary from a few months to five years.

It may seem tempting amid concerns of further hikes but before you fix your rate, consider this…

  1. Should the interest rate fall below the fixed rate during the term, your rate will remain the same – you could end up paying far more than is necessary.
  2. When the fixed term ends you may be in for a shock if rates are a lot higher at the time – suddenly your repayment will jump too.

So what’s the answer – to fix or not?

Interest rates are unlikely to rise significantly in the near term, so only consider fixing if you are financially in a tight spot and can’t see how you’d manage to repay your property investments if the rate were to rise unexpectedly high.

But this can be an expensive exercise! Most fixed rates are a few percent above prime so you pay more now based on the possibility that rates will rise enough during the fixed term to warrant the extra expense.

Let’s say you fix the rate for five years at 2% above prime on a 20-year bond of R400k. Your repayments will be R4,130 whereas at prime you’re looking at R 3,600. That’s R530 extra per month. If you fix at 3% above prime your repayment will go up to R 4,405, an additional R805 a month.

If you fix now and interest rates increase only moderately during the term, you may not see any benefit to your property investments – you’ll simply end up paying more. And it doesn’t mean your rate will revert to the original rate when you first took the loan either, it could end up being much higher.

So be wary, you may gain some peace of mind in being able to budget exactly but fixing your rate comes with a massive downside – it could cost you dearly!

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