Differences between fixed rates and adjustable rates

Differences between fixed rates and adjustable rates

What is a fixed rate?

A fixed mortgage rate is the most common type of mortgage. A fixed mortgage rate can range between a 15 to 30 years term. Once you lock in an interest rate, that rate stays with you for the term unless you refinance. For fixed mortgages, borrowers will have the same mortgage payment monthly and is prevented from fluctuating.

Fixed mortgages are fully amortizing (pay off via a month-to-month basis) loans, so the principal and interest rate is combined. As for any loan, you are paying more than the principal because there is interest accrued during the term of the loan.

What is an adjustable rate?

An adjustable rate mortgage has an interest rate that varies throughout the term of your mortgage. The initial rate is fixed for a period and eventually resets every year or every month. Therefore, sometimes your interest rate can cause your mortgage payment to be higher or lower causing a fluctuation on your mortgage payment.

Adjustable rate mortgage terms are expressed with two numbers. The first number is the length of the time that the interest rate will be stable. The second number is the change in adjustment. So for example, a common adjustable-rate mortgage is 7/1 ARM, so for the first 7 years your interest rate will remain the same and for the remaining 23 years the interest rate can move up or down. The adjusting portion is dependent on what the index and margin value is tied to.

In the 7/1 ARM, the first 7 years will have a fixed interest rate. This fixed interest rate is typically a lot lower than a conventional fixed mortgage. This type of mortgage is good for individuals planning to live in their home for a short period of time.

Which type of mortgage is better?

Each mortgage is dependent on each individual’s needs and outcomes. If the borrower plans to stay in a home less than a fixed or ARM term then going with adjustable rate mortgage is the better option. If the borrower would like a lower monthly mortgage for a few years and is expecting a raise or increase in income an adjustable rate mortgage could be beneficial. However, if the borrower is planning to purchase a forever home, a conventional loan should be the preferred mortgage. Each individual’s mortgage is varies because each individual’s circumstances are different, for the best advice contact Mega Loans to find out your best fit.