Differences between adjustable and fixed rate loans

With a fixed-rate loan, your payment remains the same for the entire duration of the mortgage. The amount of the payment that goes to your principal (the amount you borrowed) will go up, but your interest payment will decrease in the same amount. Your property taxes increase, or rarely, decrease, and your insurance rates might vary as well. For the most part payments on a fixed-rate loan will be very stable.

Your first few years of payments on a fixed-rate loan go mostly to pay interest. The amount applied to principal goes up gradually each month.

Borrowers can choose a fixed-rate loan in order to lock in a low interest rate. Borrowers choose fixed-rate loans when interest rates are low and they wish to lock in at the lower rate. For homeowners who have an ARM now, refinancing into a fixed-rate loan can offer greater consistency in monthly payments. If you have an Adjustable Rate Mortgage (ARM) now, we can assist you in locking a fixed-rate at the best rate currently available. Call Howard Financial at (610) 889-7467 to learn more.

There are many types of Adjustable Rate Mortgages. Generally, the interest on ARMs are based on an outside index. A few of these are: the 6-month CD rate, the 1 year rate on Treasure Securities, the Federal Home Loan Bank's 11th District Cost of Funds Index (COFI), or others.

Most ARMs feature this cap, which means they can't increase over a specific amount in a given period of time. Your ARM may feature a cap on how much your interest rate can go up in one period. For example: no more than a couple percent per year, even if the underlying index increases by more than two percent. Your loan may feature a "payment cap" that instead of capping the interest directly, caps the amount that your monthly payment can increase in a given period. Plus, almost all adjustable programs feature a "lifetime cap" — this cap means that your interest rate won't go over the cap amount.

ARMs most often have the lowest rates toward the beginning. They usually provide the lower rate from a month to ten years. You may hear people talking about "3/1 ARMs" or "5/1 ARMs". For these loans, the introductory rate is set for three or five years. After this period it adjusts every year. These loans are fixed for a number of years (3 or 5), then adjust. Loans like this are often best for borrowers who anticipate moving in three or five years. These types of ARMs benefit people who will sell their house or refinance before the initial lock expires.

Most borrowers who choose ARMs do so because they want to get lower introductory rates and do not plan to remain in the home for any longer than this introductory low-rate period. ARMs can be risky in a down market because homeowners could be stuck with increasing rates if they can't sell or refinance with a lower property value.

Have questions about mortgage loans? Call us at (610) 889-7467. We answer questions about different types of loans every day.

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