What Is the Standard Variable Interest Rate?
When you apply for a home loan, you can choose either a fixed interest rate or adjustable (variable) interest rate. Fixed rates never change over the life of the mortgage, but adjustable rates can go up or down periodically.
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Index Rate
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The index rate standardizes the cost of doing business. All loans start by determining the index rate. The index rate is a general assessment of the cost of lending money and can be calculated from any one of several sources, such as one-year Constant Maturity Treasury (CMT) securities, the Cost of Funds Index (COFI), and the London Interbank Offered Rate (LIBOR). These numbers are often similar, but can vary enough to justify asking your lender which index is being used.
Margin
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The lender then typically adds a margin rate to the index rate. The margin represents the profit that the mortgage company expects to make from the loan. While the adjustable rate can vary according to factors, the margin rate does not change.
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Standard Interest Rate
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The standard variable rate rises and falls with the calculated index rate. The standard variable interest rate is the sum of the index rate and the margin rate. For example, if the index is calculated at 7 percent and the margin applied is 4 percent, then the standard variable rate is 11 percent at the time it is adjusted. The standard rate changes when the index rate does.
Adjustment Caps
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Some lenders try to make adjustable rate mortgages a more attractive option by adding an upper limit to how much your rate can vary. These provisions can be complex -- the cap can change from year to year, and by differing amounts. Inspect the offer very closely before making a decision to accept.
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