Differences between fixed and adjustable rate loans
With a fixed-rate loan, your payment stays the same for the entire duration of the loan. The amount of the payment allocated for principal (the actual loan amount) goes up, however, your interest payment will decrease in the same amount. Your property taxes increase, or rarely, decrease, and so might the homeowner's insurance in your monthly payment. For the most part payments on a fixed-rate mortgage will increase very little.
Early in a fixed-rate loan, most of your monthly payment pays interest, and a much smaller part toward principal. This proportion gradually reverses as the loan ages.
You can choose a fixed-rate loan to lock in a low rate. People select these types of loans when interest rates are low and they want to lock in this lower rate. If you have an Adjustable Rate Mortgage (ARM) now, refinancing with a fixed-rate loan can offer greater monthly payment stability. If you have an Adjustable Rate Mortgage (ARM) now, we can help you lock in a fixed-rate at a good rate. Call Real Property Finance at 310-379-5997 for details.
There are many kinds of Adjustable Rate Mortgages. Generally, interest on ARMs are based on a federal index. Some examples of outside indexes are: the 6-month Certificate of Deposit (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 Adjustable Rate Mortgages are capped, which means they can't go up above a certain amount in a given period of time. Some ARMs can't adjust more than 2% per year, regardless of the underlying interest rate. Sometimes an ARM features a "payment cap" that guarantees your payment can't increase beyond a fixed amount over the course of a given year. The majority of ARMs also cap your interest rate over the life of the loan.
ARMs usually start at a very low rate that may increase as the loan ages. You may have heard about "3/1 ARMs" or "5/1 ARMs". In 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 adjust. Loans like this are often best for borrowers who expect to move within three or five years. These types of adjustable rate loans are best for people who plan to move before the initial lock expires.
Most people who choose ARMs choose them when they want to get lower introductory rates and do not plan on remaining in the home longer than the initial low-rate period. ARMs can be risky if property values decrease and borrowers cannot sell or refinance their loan.
Have questions about mortgage loans? Call us at 310-379-5997. We answer questions about different types of loans every day.