Differences between fixed and adjustable loans
With a fixed-rate loan, your monthly payment remains the same for the life of the mortgage. The portion of the payment that goes to your principal (the loan amount) will go up, but your interest payment will decrease accordingly. The property tax and homeowners insurance which are almost always part of the payment will go up over time, but generally, payment amounts on fixed rate loans don't increase much.
Your first few years of payments on a fixed-rate loan go primarily toward interest. As you pay on the loan, more of your payment is applied to principal.
You might choose a fixed-rate loan in order to lock in a low interest rate. People choose fixed-rate loans because interest rates are low and they want to lock in at the low rate. For homeowners who have an ARM now, refinancing with a fixed-rate loan can offer greater monthly payment stability. If you have an Adjustable Rate Mortgage (ARM) now, we'll be glad to assist you in locking a fixed-rate at the best rate currently available. Call Abundance Home Mortgage at (512) 335-7800 to discuss your situation with one of our professionals.
There are many kinds of Adjustable Rate Mortgages. Generally, interest on ARMs are based on an outside index. A few of these are: the 6-month Certificate of Deposit (CD) rate, the 1 year Treasury Security rate, the Federal Home Loan Bank's 11th District Cost of Funds Index (COFI), or others.
Most ARM programs feature a cap that protects you from sudden increases in monthly payments. Your ARM may feature a cap on interest rate increases over the course of a year. For example: no more than two percent a year, even though the index the rate is based on increases by more than two percent. Your loan may have a "payment cap" that instead of capping the interest rate directly, caps the amount your payment can increase in a given period. In addition, the great majority of adjustable programs have a "lifetime cap" — this means that the interest rate can't exceed the cap amount.
ARMs most often feature the lowest, most attractive rates toward the beginning. They provide that rate from a month to ten years. You may hear people talking about "3/1 ARMs" or "5/1 ARMs". For these loans, the initial rate is fixed for three or five years. It then adjusts every year. These kinds of loans are fixed for 3 or 5 years, then they adjust after the initial period. Loans like this are often best for people who anticipate moving within three or five years. These types of adjustable rate loans most benefit people who will sell their house or refinance before the loan adjusts.
You might choose an ARM to get a very low initial rate and count on moving, refinancing or simply absorbing the higher rate after the initial rate goes up. ARMs can be risky in a down market because homeowners can get stuck with rates that go up when they cannot sell their home or refinance at the lower property value.
Have questions about mortgage loans? Call us at (512) 335-7800. It's our job to answer these questions and many others, so we're happy to help!