Are interest rates on demand loans fixed or variable?

Interest rates applicable on demand loans are usually variable rates, not fixed. The rates are tied to an external benchmark such as the repo rate, Treasury bill yields, or bank benchmarks like Marginal Cost of Funds based Lending Rate (MCLR).

When the underlying benchmark rate changes, the interest rate on the demand loan also automatically adjusts. This allows financial institutions to pass on any changes in their funding costs to applicants quickly.

Since the future direction of benchmark rates is uncertain, variable rates involve an interest rate risk for the applicant. The monthly Equated Monthly Instalment (EMI) would change every time rates get revised upwards.

However, variable rates also allow the applicant to avail of any reduction in benchmark rates immediately. This enables demand loan rates to be more aligned with current market conditions.

Overall, the inherent flexibility and short-term nature of demand loans make variable interest rates better suited than fixed rates in most cases. The loan provider also prefers to minimise risk through variable rates.

By learning these basics of how demand loan interest rates work and change over time, applicants can evaluate if this type of loan aligns with their unique financial situation and tolerance for repayment risk.