The interest is the bank's profit in return for granting the customer access to the requested financing. In the case of a variable interest rate mortgage it consists of two parts the reference rate and the differential. The sum of the two will give us the interest rate we will pay for our mortgage.
- The benchmark rates. These rates are used to modify the interest rate of a variable rate mortgage, i.e. they indicate the evolution of the cost of money and that influences the total amount the customer will have to repay in the monthly payments and, therefore, the total to be repaid at the end of the loan life.
In Spain, the most frequently used reference rate is the Euribor, which shows the price at which European banks lend money to each other. They are normally revised once a year, although this may be done every three or six months After this revision the customer's monthly payment may go up or down, depending on the evolution of the Euribor.
There are also other reference rates, including the IRPH Conjunto de Entidades.
- The applied differential. This is what the bank charges for assuming the risk of financing the purchase of a property.
With these factors we can differentiate three kinds of mortgage, depending on the interest rate applied:
- Fixed rate: To calculate the cost of fixed rate mortgages, the Euribor is not taken into account, just the fixed interest rate applied by the bank. This means we will always know our monthly payment.
- Variable rate: In the case of variable rate mortgages, it is most common to use the Euribor as a reference rate. This rate varies daily, although the interest rate on a loan is normally updated every 6 months, taking the value of the Euribor at that time. In this way, the reference rate conditions the cost of the mortgage: the lower the Euribor, the less the customer will pay monthly for their mortgage.
- Mixed type: These mortgages apply a fixed rate during the first years of the loan and after that a variable interest based on the Euribor.
Another two important concepts regarding the price of a mortgage are the NIR and the APR:
- NIR stands for Nominal Interest Rate: the price the bank charges for lending money for a certain period. This figure does not take into account any additional expense associated with taking out the mortgage, for example, a start-up fee. It is a useful indicator of the price of that product or financial operation in the same bank; it is not useful for comparing product prices either in the bank in which we requested the loan or in other banks.
- APR stands for Annual Percentage Rate: it indicates the actual cost of a loan during a specific period based on a standardized mathematical formula that is used by all banking institutions, in other words, it allows you to compare the cost of the same product in different banks. The APR does include the fees and some of the costs associated with the loan.
When a bank offers a variable rate mortgage, it is usual to see the cost expressed in three different ways: through the NIR, the Variable APR and the Euribor + applied differential formula.