Differences between adjustable and fixed rate loans
With a fixed-rate loan, your monthly payment stays the same for the entire duration of the loan. The amount that goes to principal (the actual loan amount) increases, however, the amount you pay in interest will decrease in the same amount. The property taxes and homeowners insurance which are almost always part of the payment will increase over time, but for the most part, payment amounts on these types of loans change little over the life of the loan.
Your first few years of payments on a fixed-rate loan are applied mostly toward interest. The amount paid toward your principal amount goes up gradually every month.
You might choose a fixed-rate loan in order to lock in a low rate. People select fixed-rate loans because interest rates are low and they want to lock in at this lower rate. For homeowners who have an ARM now, refinancing with a fixed-rate loan can provide more 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 a good rate. Call The Lending Source at (973) 601-2122 to learn more.
There are many types of Adjustable Rate Mortgages. ARMs usually adjust twice a year, based on various indexes.
The majority of ARMs are capped, so they won't increase over a certain amount in a given period of time. 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 a year, even if the underlying index increases by more than two percent. Your loan may feature a "payment cap" that instead of capping the interest directly, caps the amount that your monthly payment can go up in one period. Plus, almost all adjustable programs feature a "lifetime cap" — this means that the interest rate can't ever exceed the capped amount.
ARMs usually start out at a very low rate that usually increases as the loan ages. You may hear people talking about "3/1 ARMs" or "5/1 ARMs". For these loans, the initial rate is set for three or five years. It then adjusts every year. These loans are fixed for 3 or 5 years, then they adjust after the initial period. These loans are best for borrowers who anticipate moving within three or five years. These types of ARMs benefit people who plan to move before the loan adjusts.
Most borrowers who choose ARMs do so because they want to take advantage of lower introductory rates and do not plan to stay in the home for any longer than the initial low-rate period. ARMs are risky if property values go down and borrowers are unable to sell their home or refinance their loan.
Have questions about mortgage loans? Call us at (973) 601-2122. We answer questions about different types of loans every day.