Buying guide

What are home loan interest rates and how do they work?

A quick and easy guide.

Last updated: 25 June 2023

What you’ll learn:

  • Where are home loan interest rates?
  • Why do banks charge interest rates on home loans?
  • How are home loan interest rates calculated?
  • What are Fixed and floating interest rates

When buying a house in NZ, there are a number of figures you need to wrap your head around.

The first is the cost of properties themselves. There are no two ways around it, it costs a lot of money to buy in NZ. The average house price in Aotearoa New Zealand is currently $862,65, according to our Property Price Index.

Another crucial cost to understand is how much deposit you’ll need in order to buy. Generally speaking, a house deposit is 20% of the house price, but there are a number of ways you might be able to reduce your deposit, depending on your circumstances.

Today, however, we’re going to focus on interest rates. We’ll look at what these are, how much they cost and how you can compare the different options.

What are home loan interest rates, and why do banks charge them?

Buying a home in NZ typically involves taking out a loan to cover most of the cost, and making up the shortfall with your deposit. You’re charged interest on the loan you took out from the lender which, in most cases, is a bank.

The interest on your home loan, or mortgage, is generally calculated daily, but you’ll only pay the interest that's owed cumulatively at the end of the month.

Banks charge interest rates on home loans in order to pay wages, to make profit for their shareholders and to cover other expenses.

You need to be aware of home loan interest rates when budgetting for your home.

How are mortgage interest rates calculated?

To calculate your daily interest rate, your bank will take the amount outstanding on your loan at the end of every business day, and multiply it by the interest rate applied to your loan (more on this later). The bank then divides the amount by the number of days in the year.

Next, every daily interest charge for the month is summed and then charged to your loan at the month’s end.

To get an idea of what your combined mortgage and interest rate repayment might come to, check out our free mortgage calculator.

There are, however, a number of factors that influence the amount of interest you’ll pay on your home loan repayments, including:

  • How much you borrowed: the greater the sum you borrow from your bank, the more interest you’ll repay.
  • The Reserve Bank Official Cash Rate (OCR): the OCR is set by the Reserve Bank of New Zealand — Te Pūtea Matua, every six weeks. Changes to the OCR impacts how much it costs to borrow, which can lead leaders to alter how much interest they charge.
  • How much is outstanding: as the amount outstanding goes down, you’re paying interest on a reduced sum, meaning that your interest payments will also slowly decrease.
  • The loan term: paying your loan back over a shorter period of time will typically reduce how much you pay.
  • How frequently you make repayments: lenders usually have options about how regularly you make mortgage repayments, typically weekly, fortnightly or monthly. Making more regular repayments will lower how much interest you pay.

You'll need to decide if you'd prefer a fixed or floating interest rate.

Fixed and floating interest rates explained

With the majority of home loans in Aotearoa New Zealand, you’ll have the option to choose either a fixed or a floating interest rate. So, it’s important to understand the differences between the two, and the pros and cons of each.

Floating interest rates

A floating interest rate will be influenced by changes in the wider market. This means that you might pay less if interest rates go down, meaning you can pay off your loan faster. However, the reverse is also true, if interest rates go up, you’ll pay more, which could be higher than a fixed term rate.

Another pro of floating rates is that you have the ability to make lump sum payments of any size whenever you want, without paying penalties.

Fixed interest rates

In contrast to a floating rate, a fixed rate is….well, fixed. This means it never changes during the period (term) that you fix it for, regardless of what’s happening in the wider market.

The benefits of taking out a fixed interest rate home loan is that you won’t have to pay more, even if interest rates generally are on the rise. Of course, the flipside is that you can’t take advantage of falling interest rates either.

It’s also worth noting that you might have to pay an early repayment charge (ERC) if you want to make extra payments or pay the loan back faster than was initially agreed.

There’s also a third option, whereby you split how much you borrow between two loans, one floating and one fixed. This gives you some exposure to the pros of each, while meaning you don’t have to put all your eggs into one basket.

*We hope this article has provided some helpful information. It's based on our experience and is not intended as a complete guide. Of course, it doesn’t consider your individual needs or situation. If you're thinking about buying or selling a property, you should always get specific advice.


Al Hall
Al Hall

Al Hall is a regular contributor at Trade Me Jobs and Trade Me Property. He’s dedicated to helping people succeed in their aspirations to find their dream job and place to live.