Home loans can be taken out with a variable interest rate, a fixed interest rate or a mixed interest rate.
In addition to the interest rate, the customer has to pay commissions and other charges associated with the loan.
Loans with a variable interest rate
In home loan contracts with a variable interest rate, the interest rate is the sum of the index and the spread:
- Index (reference interest rate) - generally corresponds to Euribor (European Interbank Offered Rate), which is the reference rate for the interbank money market and is the average of the quotes provided by a number of European banks. The customer can opt for different terms, the most common being Euribor at 3, 6 and 12 months;
- Spread - this is the component of the interest rate that is added to the index. The spread is freely defined by the credit institution for each contract, taking into account the client's credit risk, the loan-to-value ratio and the cost of financing. Depending on the credit institution's commercial strategy, the spread may be reduced in return for the necessarily optional purchase of other products (associated sales).
Credit institutions cannot review the value of the index at a different frequency to the term of that index. For example, in contracts where the index is the 3-month Euribor, the value of this rate can only be revised every 3 months.
Credit institutions must also:
- Ensure that the index used to calculate the interest rate is clear, accessible, objective and verifiable by the parties to the credit agreement (credit institution and bank customer) and by the Bank of Portugal;
- Ensure that the index corresponding to a monetary reference variable is determined by an independent institution and is appropriate to the characteristics of the credit agreement in question;
- Keep historical records of the index used for the interest rate, which the bank customer must be able to access simply and free of charge.
Loans with a fixed interest rate
In loans with a fixed interest rate, the interest rate is always the same and the installment does not change during the term of the contract.
The fixed interest rate is freely established by the credit institution in each contract, taking into account the customer's credit risk, the loan-to-value ratio, the cost of financing and the risk of fixing the interest rate for a relatively long period.
A mortgage contract with a fixed interest rate allows the customer not to be exposed to the risk of interest rate fluctuations. For this reason, at the beginning of the loan, the fixed interest rate is usually higher than that of an identical loan with a variable interest rate.
Mixed interest rate loans
In mixed interest rate loans, the parties agree that the credit agreement has a period in which the rate is fixed, followed by a period in which the rate is variable.
For example, a 30-year home loan may have a fixed rate for the first 5 years and a variable rate, indexed to Euribor, for the remaining 25 years.
During the period in which the variable rate applies, credit institutions cannot revise the value of the index with a periodicity different from the term of that index. For example, in contracts where the index is the 3-month Euribor, the value of this rate can only be revised every 3 months.
Interest rate and other charges
The interest rate, freely negotiated between the credit institution and the bank customer, is just one of the charges payable for granting the loan.
The customer has to pay commissions and other charges (for example, for opening the file and evaluating the property) which are levied by the institution at the beginning of the operation (“upfront”) and during the term of the contract.
Source: Bank of Portugal