Fixed-Rate Mortgages vs. Adjustable-Rate Mortgages
When you're preparing to buy a home, one of the first things you should do is decide which type of mortgage you'd like. There are two major types of mortgages you can choose from - fixed-rate mortgages and adjustable-rate mortgages.
Fixed-Rate Mortgages
A fixed-rate mortgage (FRM) has an interest rate that doesn't change. The interest rate you're quoted at the beginning of the mortgage is the same interest rate you'll pay throughout the life of the loan. Because the mortgage has a fixed interest rate, your monthly mortgage payments won't ever change. Fixed-rate mortgage are typically issued for 15- or 30-year terms.
If mortgage interest rates drop after you've taken out a fixed-rate mortgage, your mortgage payments under your current loan won't be impacted by the lower rate. Instead, if you want to take advantage of lower mortgage interest rates, you have to refinance your mortgage. Because you have to go through the loan application process all over again, there's no guarantee that you'll be able refinance or that you'll save money in the long run if you do.
Adjustable-Rate Mortgages
An adjustable-rate mortgage (ARM) has an interest rate that changes over time. The interest rate can change yearly, bi-annually, quarterly, or even monthly. Some ARMs have interest rates that fluctuate up and down, while others only adjust upward. Because of the interest rate changes, your monthly payment will be very unpredictable with an adjustable-rate mortgage.
Many homebuyers are attracted to adjustable-rate mortgages because the initial interest rates are lower than that of similar fixed-rate mortgage. That means monthly payments are also lower. However, after the interest rate on the mortgage rises, your monthly payments might also rise above that of a comparable fixed-rate mortgage.
Generally, adjustable-rate mortgages are riskier than fixed-rate mortgages because the interest rate and monthly payments are somewhat unpredictable. ARM payments tend to rise over time. If your income doesn't increase at the same rate as your mortgage payment, you could have trouble making your mortgage payments. To take on an ARM you have to be pretty confident that your income will always increase, allowing you to afford your mortgage payments even at their maximum level.
Life changes could also make it difficult to afford an ARM payment. The birth of a child, divorce, or death in the family are all life-changing events that could upset your financial stability for a period of time. The last thing you need to worry about in any of those situations is an unpredictable mortgage payment.
When you're shopping around for a mortgage, lay out the pros and cons of both types of mortgages. Though the initial mortgage payments on a fixed-rate mortgage will be higher than an adjustable-rate mortgage, the predictability and stability of the payments over time can outweigh the initial interest savings. No matter which type of mortgage you choose, make sure you shop around. Get a loan you can afford, even at the highest interest rate and don't be afraid to negotiate a lower interest rate, even on a fixed-rate mortgage
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