Variable rate loan defined

Writer and editor - Bryan Robinson | Updated on 2023-01-11

What is a variable rate loan?

A variable rate loan is a type of loan where the interest rate can change over time. This means your monthly payments could go up or down depending on market conditions. Variable rate loans are usually offered at a lower interest rate than fixed rate loans, making them attractive to borrowers who are looking to save money on their loan. However, it is important to remember that your payments could increase if rates rise, so make sure you can afford the monthly payments before taking out a variable rate loan.

How does the interest rate on a variable rate loan work?

The interest rate on a variable rate loan is based on an underlying index, such as the prime rate or LIBOR. The interest rate on a variable rate loan will typically be lower than the interest rate on a fixed rate loan.


Related reading: APR page, Interest rate page.

What are the benefits of a variable rate loan?

There are several benefits of a variable rate loan, which include the following:

  • As stated earlier, the interest rate on a variable rate loan is usually lower than the interest rate on a fixed rate loan, which means you will have lower monthly payments.
  • With a variable rate loan, your payments will increase or decrease along with changes in the interest rate, which gives you more flexibility in managing your budget.
  • If interest rates go down, you will benefit from lower monthly payments.

What are the risks of a variable rate loan?

There are several risks associated with variable rate loans. The most obvious is that the interest rate on the loan can rise, which will increase the monthly payments. This could make it difficult to keep up with the payments, and the borrower may eventually default on the loan.

Another risk is that the value of the collateral (the home or other property used to secure the loan) could decline. If this happens, the lender may require the borrower to provide additional collateral or may foreclose on the property.

Finally, there is always the risk that something unexpected will happen that makes it difficult or impossible to make the monthly payments. This could include a job loss, a serious illness, or another economic downturn. If this happens, borrowers may find themselves unable to keep up with their payments and facing foreclosure.

How can I compare variable rate loans?

When shopping for a variable rate loan, it is important to compare both the starting interest rate and the margin. The margin is the amount above or below the index that your interest rate will be set at. For example, if you are considering a variable rate loan with a margin of 2%, and the current Prime Rate is 4%, then your starting interest rate would be 6% (4% + 2%).Margins can vary significantly from one lender to another, so it is important to compare offers from multiple lenders before choosing a loan.

Bryan Robinson

Bryan Robinson
Writer and editor


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