Differences between fixed and adjustable rate loans
With a fixed-rate loan, your monthly payment stays the same for the life of the mortgage. The portion of the payment allocated for principal (the actual loan amount) increases, however, your interest payment will decrease accordingly. The property taxes and homeowners insurance will go up over time, but for the most part, payments on fixed rate loans change little over the life of the loan.
Your first few years of payments on a fixed-rate loan go primarily to pay interest. The amount applied to principal increases up slowly every month.
Borrowers might choose a fixed-rate loan to lock in a low interest rate. Borrowers select these types of loans because interest rates are low and they want to lock in at the lower rate. If you have an Adjustable Rate Mortgage (ARM) now, refinancing into a fixed-rate loan can provide greater monthly payment stability. If you have an Adjustable Rate Mortgage (ARM) now, we can assist you in locking a fixed-rate at a good rate. Call Alternative Mortgage Group at 561-395-4264 for details.
Adjustable Rate Mortgages — ARMs, as we called them above — come in a great number of varieties. Generally, interest rates on ARMs are determined by 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 ARM programs have a "cap" that protects borrowers from sudden monthly payment increases. There may be 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 though the underlying index goes up by more than two percent. Sometimes an ARM has a "payment cap" which ensures your payment will not go above a certain amount in a given year. Additionally, almost all adjustable programs have a "lifetime cap" — your interest rate can't ever exceed the capped percentage.
ARMs usually start out at a very low rate that usually increases over time. You've probably heard of 5/1 or 3/1 ARMs. For these loans, the introductory rate is set for three or five years. After this period it adjusts every year. These kinds of loans are fixed for a certain number of years (3 or 5), then they adjust. These loans are often best for borrowers who anticipate moving in three or five years. These types of ARMs most benefit borrowers who will sell their house or refinance before the initial lock expires.
You might choose an ARM to take advantage of a lower introductory rate and count on moving, refinancing or simply absorbing the higher rate after the introductory rate goes up. ARMs can be risky in a down market because homeowners could be stuck with increasing rates if they cannot sell or refinance at the lower property value.
Have questions about mortgage loans? Call us at 561-395-4264. We answer questions about different types of loans every day.