Differences between adjustable and fixed loans
With a fixed-rate loan, your payment never changes for the life of the mortgage. The amount that goes for principal (the amount you borrowed) will increase, but your interest payment will go down accordingly. The property taxes and homeowners insurance which are almost always part of the payment will go up over time, but in general, payments on these types of loans vary little.
Your first few years of payments on a fixed-rate loan are applied mostly toward interest. As you pay , more of your payment goes toward principal.
Borrowers can choose a fixed-rate loan in order to lock in a low rate. People select these types of loans because interest rates are low and they wish to lock in this lower rate. For homeowners who have an ARM now, refinancing into a fixed-rate loan can offer greater monthly payment stability. If you have an Adjustable Rate Mortgage (ARM) now, we can assist you in locking a fixed-rate at a favorable rate. Call Dick Lepre at (415) 244-9383 to discuss your situation with one of our professionals.
There are many types of Adjustable Rate Mortgages. Generally, interest rates on ARMs are determined by an outside index. A few of these are: the 6-month CD rate, the one-year Treasury Security rate, the Federal Home Loan Bank's 11th District Cost of Funds Index (COFI), or others.
Most programs have a cap that protects borrowers from sudden monthly payment increases. Some ARMs won't adjust more than two percent per year, regardless of the underlying interest rate. Your loan may have a "payment cap" that instead of capping the interest rate directly, caps the amount that the monthly payment can increase in a given period. The majority of ARMs also cap your interest rate over the life of the loan.
ARMs usually start 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 initial rate is set for three or five years. After this period it adjusts every year. These kinds of loans are fixed for 3 or 5 years, then they adjust after the initial period. These loans are usually best for borrowers who expect to move in three or five years. These types of adjustable rate loans are best for 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 plan on moving, refinancing or simply absorbing the higher rate after the initial rate expires. ARMs can be risky when property values decrease and borrowers are unable to sell or refinance their loan.
Have questions about mortgage loans? Call us at (415) 244-9383. We answer questions about different types of loans every day.