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What Is a Fixed-Rate Loan?

What Is a Fixed Rate Loan?
Sulaiman Abdur-Rahman

Sulaiman Abdur-Rahman

Updated January 4, 2022
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Editor’s note: Lantern by SoFi seeks to provide content that is objective, independent and accurate. Writers are separate from our business operation and do not receive direct compensation from advertisers or partners. Read more about our Editorial Guidelines and How We Make Money.
A fixed-rate loan is a lending product that allows eligible consumers or businesses to borrow money with an interest rate that does not change over the life of the loan. Whether the product is a federal student loan, fixed-rate mortgage, fixed-rate personal loan, or any other lending product with a fixed rate of interest, the interest rate would never fluctuate over time. The repayment terms of a fixed-rate loan are predictable, unlike a variable-rate loan that carries an interest rate that may suddenly go up or down based upon market conditions. Below we provide comprehensive information about fixed-rate loans versus variable-rate loans and highlight key factors that may help you determine your best options for a loan.

Fixed-Rate Loan Definition

As mentioned above, a fixed-rate loan is a borrowed sum of money with an interest rate that does not change. The rate is locked or fixed in place for the entirety of the loan. That means the interest rate would remain flat and unchangeable. The interest rate of a loan represents the cost of borrowing money in addition to the principal owed.

Different Types of Fixed-Rate Loans

Here are the various fixed-rate loans a consumer or business may apply for:
  • Fixed-rate personal loans for major expenses
  • Federal Direct Loans for students seeking higher education
  • Fixed-rate car loans to finance a vehicle purchase
  • Fixed-rate mortgages to buy a single-family home 
  • Fixed-rate loans for small businesses

Pros and Cons of Fixed-Rate Loans

Fixed-rate loans may carry certain advantages and disadvantages for a consumer. Let’s look at some of the pros and cons:

Pros of a Fixed-Rate Loan

Predictable payments: Your monthly principal and interest payments will remain the same every month for the life of the loan. This predictability can help you better manage your finances. Volatility-free: A fixed-rate loan has a fixed interest rate that will remain flat even if market interest rates go up nationwide.

Cons of a Fixed-Rate Loan

Boxed-in: The interest rate will not decrease even if market interest rates go down nationwide.Potentially risky: A fixed interest rate is not risk-free. If the locked interest rate is relatively high compared with the market index rates, the short-term and long-term costs of taking a fixed-rate loan could potentially be higher than borrowing money under a variable rate loan.

Variable vs Fixed-Rate Loan

As we mentioned earlier, a loan may include either a variable interest rate or fixed interest rate, and the nature of the rate matters:  

What Is a Variable Rate Loan?

A variable rate loan is a borrowed sum of money with an interest rate that changes or fluctuates over time. The rate may increase or decrease depending on market conditions. 

Differences Between Variable and Fixed-Rate Loans

A variable-rate loan carries an interest rate that may change over time, while a fixed-rate loan has an interest rate that will never change over the life of the loan.

Determining if a Fixed-Rate Loan Is for You

Determining whether a fixed-rate loan is right for you may require a personal analysis of your current financial health and outlook. In the area of student loans, the initial interest rate on a variable-rate loan is often lower than a fixed-rate loan term. As mentioned earlier, the initial interest rate on a variable-rate loan can change in any given month, where the cost of borrowing money through a variable-rate loan can go up or down. Consumers may consider the long-term possibilities when determining whether to choose a fixed-rate loan versus a variable-rate loan.Although variable-rate loans may include an interest rate cap structure limiting how much the rate can rise or fall, consumers could consider their ability to pay and their long-term fiscal outlook to help determine what loan products may better accommodate their budgetary preferences and needs. Borrowing money on a fixed interest rate creates a predictable payment schedule, but a fixed-rate loan is not necessarily more cost-effective than a variable-rate loan in the near term or long term because of potential fluctuations in market interest rates. Your central determining factor might be whether you can afford a higher interest rate now or later, or whether predictability reigns supreme. Consumers could explore the following fixed-rate options:

1. Fixed-Rate Personal Loans

A fixed-rate personal loan may help you consolidate debt. This could be particularly helpful for any consumer saddled with high credit card balances. Other reasons to get a personal loan could include financial necessity, such as a consumer facing a costly and unexpected family emergency. Personal loans can help borrowers pay off medical bills and finance large purchases.

2. Federal Student Loans

Federal student loans are traditional fixed-rate loans that promote higher education. Undergraduate students with financial need may qualify for Direct Subsidized Loans, while a wider pool of undergraduate and graduate students could qualify for Direct Unsubsidized Loans. The U.S. Department of Education also offers Direct PLUS Loans to eligible parents and graduate or professional students.

3. Fixed-Rate Auto Loans

Fixed-rate financing can help consumers buy new or used vehicles. Consumers with strong credit histories may qualify for interest-free auto loans, which carry a fixed interest rate of 0% for the life of the loan. The average credit score for a used vehicle loan rose to 675 in the third quarter of 2021, up from 666 in Q3 2020, and the average credit score for a new vehicle loan increased one point year-over-year, reaching 733, according to Experian’s State of the Automotive Finance Market report released in December 2021. Another nationwide consumer reporting agency, Equifax, considers any credit score between 660 and 850 to be good, very good, or excellent in its credit scoring model ranging from 280 at the lowest to 850 at the highest.

4. Fixed-Rate Mortgages

Homebuyers looking for predictability in their monthly housing costs can consider a fixed-rate mortgage. The repayment terms of a fixed-rate mortgage can vary by length, including a 30-year term or 15-year term. A shorter mortgage term could be more cost-effective than a longer mortgage term. For example, buying a house with a 15-year fixed-rate mortgage term would generally feature a lower interest rate packaged with higher monthly payments than buying that same house with a 30-year mortgage term and everything else holding equal. Some lenders may require a down payment as high as 20% of the home’s purchase price for any fixed-rate mortgage product, but other lenders may accept substantially lower down payments for a house financed with a fixed-rate mortgage.

5. Fixed-Rate Business Loans

The U.S. Small Business Administration has community partners that provide long-term, fixed-rate financing of up to $5 million for major fixed assets under the 504 Loan Program. These fixed-rate loans “promote business growth and job creation,” according to the SBA.

The Takeaway

There are many loans available with fixed interest rates. Determining between a fixed-rate loan or variable-rate loan may come down to affordability or personal preference. Borrowing money through a fixed-rate loan product has the key advantage of being predictable in the repayment cost schedule, but borrowing money through a variable-rate loan may initially feature a lower rate of interest than comparable fixed-rate loans.Lantern by SoFi has a user-friendly solution that helps consumers in the process of finding and applying for a personal loan. All you need to do is provide information about yourself and the loan you need, and Lantern helps you find lenders who best match your qualifications and needs.
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About the Author

Sulaiman Abdur-Rahman

Sulaiman Abdur-Rahman

Sulaiman Abdur-Rahman writes about personal loans, auto loans, student loans, and other personal finance topics for Lantern. He’s the recipient of more than 10 journalism awards and currently serves as a New Jersey Society of Professional Journalists board member. An alumnus of the Philadelphia-based Temple University, Abdur-Rahman is a strong advocate of the First Amendment and freedom of speech.
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