Why More Mortgage Borrowers Are Choosing Fixed Rates Despite Interest Rate Cuts

9 Out of 10 Mortgage Borrowers Opt for Fixed Rates
Fixed Rates Now Lower and Offer Higher Loan Limits
Unusual Shift as Variable Rates Are Typically Favored During Rate Cuts

Despite entering a full-fledged era of interest rate cuts, an increasing proportion of mortgage borrowers are choosing fixed-rate loans. Typically, when expectations for rate cuts spread, borrowers tend to opt for variable rates. However, the fact that fixed rates are currently cheaper than variable rates, along with the application of higher loan limits, appears to be driving the preference for fixed rates.

According to the Bank of Korea on August 27, nine out of ten mortgage borrowers at commercial banks have chosen fixed rates. In June, the proportion of new fixed-rate mortgage loans at commercial banks was 90.6%, up 9.3 percentage points from the end of last year (81.3%). In contrast, the share of borrowers choosing variable-rate mortgages during the same period dropped by about half, from 18.7% to 9.4%.

It is unusual for more borrowers to choose fixed rates during a period of falling interest rates. Normally, borrowers prefer variable rates amid expectations of further rate cuts.

The main reason more borrowers are opting for fixed rates is that fixed rates have dropped to the 3% range, making them cheaper than variable rates. It is also rare for fixed rates to be lower than variable rates during a rate-cut cycle. Since banks bear the risk of interest rate fluctuations with fixed-rate products, their cost burden is generally higher. However, last year, financial authorities instructed banks to expand fixed-rate lending to manage household debt. In response, banks offered preferential rates for fixed-rate loans, lowering the spread to encourage borrowers to choose fixed rates.

As a result, the average fixed-rate mortgage newly issued by all commercial banks in June was 3.92%, while the variable-rate mortgage stood at 3.99% per annum. During a period of falling rates, fixed rates have become cheaper than variable rates.

The gap between fixed and variable mortgage rates has also narrowed to about 0.07 percentage points as variable rates have dropped into the 3% range. In June last year, the variable rate was 4.20% per annum, with a gap of about 0.51 percentage points compared to the fixed rate (3.91%). This gap narrowed to 0.36 percentage points in September last year, 0.09 percentage points in December, and 0.1 percentage points in March this year.

The variable rate has been in the 3% range for the first time in about three years since June 2022 (3.87%), and has remained in the 3% range for two consecutive months, including May (3.97% per annum). The drop in variable rates is attributed to the steady decline in the COFIX (Cost of Funds Index) rate, which serves as the benchmark for variable-rate mortgages at banks, since September last year (3.40% for new loans). The COFIX rate has continued to fall since September last year, reaching 2.51% as of July this year.

The fact that fixed-rate loans allow for higher borrowing limits also appears to have influenced borrowers' preference for fixed rates. Under the second stage of the stress-based Debt Service Ratio (DSR), the spread for variable rates is 0.75 percentage points, while for fixed (amortizing) loans it is 0.23 percentage points. The difference is similar in the third stage as well.

The reduction in early repayment fees at banks starting this year is also cited as a reason more borrowers are choosing fixed rates, as it reduces the burden of refinancing if variable rates become more attractive in the future.

However, while choosing a fixed rate is currently advantageous in terms of interest burden and borrowing limits, there are also views that opting for a variable rate may be more beneficial in the future.

An official at a commercial bank said, "Currently, fixed-rate mortgage products offer lower rates and are advantageous in terms of loan limits. However, since there is a high possibility of additional rate cuts in the first half of next year, and considering that the prepayment penalty for mortgages is usually waived after three years, borrowers could consider refinancing at that time, taking into account the rate differences."