How Floating Interest Rate Loans Are Different From Fixed Interest Rate Loans? Know Pros And Cons

by Shatakshi Gupta

Our whole life we strive to get a better and comfortable life. In pursuance of this desire, we need to take loans for certain dreams. A loan, therefore, becomes an important part of our life. We face a few dilemmas while taking a loan like which bank is ideal, what should be the tenure and so on. Well, choosing the bank is an easy task, you can do that by comparing the best offers online. However, one thing that you should choose carefully is the type of interest rate. We all know about fixed interest rate loans. Today we will know about floating interest rates.

What is a floating interest rate?

 In a fixed interest rate, the interest rate during the whole tenure remains fixed. On the other hand, under the floating rate of interest, the interest rate changes during the loan tenure. Depending on the economic and other factors fixed interest rates keep floating within the range of ± 2-3 of fixed interest rate.

The floating rate of interest depends on the market. Usually floating Interest rates are cheaper than fixed lending rates. Sometimes floating rate goes above the fixed, but it is temporary and becomes normal after some time.

Read more: What Are Non-Convertible Debentures? Why You Should Choose These Over FDs?

Marginal Cost of Lending Rate:

It is a benchmark lending rate for floating-rate loans that came into effect in April 2016. It is the minimum interest rate at which commercial banks can lend to customers. This rate is based on four components – Marginal Cost of Funds, Cash Reserve Ratio, Operating Costs and Tenor Premium. The MCLR is linked to the Actual Deposit Rates.  Therefore, when deposit rates rise, it indicates that the interest rate of banks is likely to increase.

The edge that Floating lending rates have:

  • The biggest advantage is that it is usually less than the fixed interest rate.
  • Even if there is an increase in the floating interest rate, it remains less than the fixed interest rate.
  • If your future market prediction is accurate then this will help you in saving a huge sum of money.
  • It is driven by the market. So banks cannot lend at discretionary rates.
  • Floating rates help in passing the true benefits of the Dovish money policy of the Central bank.

The downside of floating interest rates:

  • The biggest disadvantage is that it can be difficult for a person to track his budget.  Because interest depends on the market and every month instalment can be different.
  • In floating interest rates, sometimes you may have to pay more than you anticipate.
  • These loans are vulnerable to market changes.

Also read: How Can You Get A Collateral-free Education Loan?

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