When to Choose an Adjustable or a Fixed-rate Mortgage
The average homebuyer financing their home may only be focused on getting approved for a mortgage loan by their mortgage lender and know little about how interest rates may impact them over the lifetime of their home loan. When it comes to home mortgage loans, there are a number of options available with homeowners eligible for an adjustable rate or fixed-rate mortgage.
Homeowners need to make timely monthly payments on their home loan. However, some types of home loans may lead to financial stress in the future, as when the interest rates on a sizable home loan increase. Learn more about adjustable and fixed-rate mortgage loans to pick the best option for specific homeownership needs.
What to Know About Your Mortgage Loan
When a homeowner takes out a loan from a lender, they will need to pay back interest on a loan, in addition to the principal. The mortgage rate or Annual Percentage Rate (APR) is a term used to describe the interest rate on a mortgage loan. An example of the type of loan one may be offered is an agreement to pay 4.39 percent on a 30-year fixed mortgage loan. The interest rate may be lower for those looking to pay it back faster, such as with a 15-year loan. Multiple factors may influence the type of loan and interest rates available for a potential borrower. A few percentage points can translate to a significant difference as to how much interest is paid to the lending institution. A savvy borrower may do well to learn more about adjustable and fixed-rate mortgage loans before taking out a mortgage loan from a reputable lender.
What Is an Adjustable Rate Mortgage?
An adjustable rate mortgage (ARM) is a type of home loan with a varying mortgage interest rate. This rate is tied to the increase and decrease of interest rates in general. For some homeowners, an ARM loan may pose greater risk than a fixed-rate mortgage. A homeowner can be subject to higher and lower monthly payments as interest rates fluctuate in the marketplace. An adjustable rate mortgage can be influenced by the Prime rate, LIBOR, Cost of Funds Index or other market index.
Balance risk and reward at the outset. Homeowners may benefit from a lower initial rate with an adjustable rate mortgage and shoulder the risk that comes with the possibility of an increase in interest rates in the future. A dramatic increase in monthly payments can make paying back a home loan a serious burden. However, this route may not pose any issue, such as when some borrowers choose to refinance their home loan in the future.
Homeowners can manage some risk of an ARM loan with a “cap” or limit on adjustments. The limit may be set on the interest rate or the amount of a monthly payment. In addition, a specified amount of time may have to elapse before the rate begins to adjust. A cap may be applied to the life of a loan or to a given period. It may be useful to talk to a lender about caps and which ones may cause a borrower to fall into negative amortization, or having the loan balance increase every month.
What Is a Fixed-Rate Mortgage?
A fixed-rate mortgage is another type of home loan wherein the interest rate stays the same for the life of a loan. Fixed-rate loans have become a popular product offered by lenders. Compared to an ARM loan, a fixed-rate loan creates higher risk for the lender when it comes to rising rates in the marketplace.
The most common fixed-rate mortgage loan is the amortized fixed-rate mortgage loan. Homebuyers appreciate the steady installment payments of this type of loan which are easy to calculate when the loan is issued. A borrower will pay both interest and principal in each payment of a fixed-rate amortizing loan.
Non-amortizing fixed-rate loans are another type of fixed-rate loan. There is more flexibility with the structure of this type of loan but borrowers may be facing a large lump sum payment in the future.
Learn More about Home Loan Products
Potential Bayfield home borrowers can benefit from inquiring into the different loan options available, as well as from speaking to multiple lenders. An applicant may be approved for an adjustable or fixed rate loan, but how the loan works may have consequences for them down the road, such as increased monthly payments or a large lump sum payment. Some who want to make regular and consistent payments may choose a fixed-rate loan. Others may prefer the lower rates available with an ARM loan. Discuss the terms, rates and conditions of any mortgage loans offered by a lender.