Fixed versus adjustable loans
A fixed-rate loan features the same payment over the life of your mortgage. 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 fixed rate loans change little over the life of the loan.
When you first take out a fixed-rate mortgage loan, the majority your payment is applied to interest. As you pay on the loan, more of your payment goes toward principal.
Borrowers might choose a fixed-rate loan to lock in a low rate. Borrowers select these types of loans because interest rates are low and they wish to lock in this low rate. For homeowners who have an ARM now, refinancing into a fixed-rate loan can provide more monthly payment stability. If you have an Adjustable Rate Mortgage (ARM) now, we'd love to assist you in locking a fixed-rate at the best rate currently available. Call Cottingham Mortgage Inc. at (800) 288-9693 for details.
Adjustable Rate Mortgages — ARMs, as we called them above — come in many varieties. Generally, the interest on ARMs are based on an outside index. Some examples of outside indexes are: the 6-month Certificate of Deposit (CD) rate, the one-year rate on Treasure Securities, the Federal Home Loan Bank's 11th District Cost of Funds Index (COFI), or others.
Most Adjustable Rate Mortgages feature this cap, so they won't go up over a certain amount in a given period. There may be a cap on interest rate variances over the course of a year. For example: no more than a couple percent per year, even though the index the rate is based on increases by more than two percent. Sometimes an ARM has a "payment cap" which ensures that your payment can't go above a fixed amount over the course of a given year. In addition, almost all ARMs feature a "lifetime cap" — this means that the interest rate will never go over the cap amount.
ARMs usually start out at a very low rate that may increase over time. You may have heard about "3/1 ARMs" or "5/1 ARMs". In these loans, the initial rate is set for three or five years. After this period it adjusts every year. These loans are fixed for a number of years (3 or 5), then adjust. Loans like this are usually best for people who anticipate moving in three or five years. These types of adjustable rate loans most benefit borrowers who plan to sell their house or refinance before the loan adjusts.
You might choose an Adjustable Rate Mortgage to get a lower introductory rate and plan on moving, refinancing or absorbing the higher rate after the introductory rate goes up. ARMs can be risky when housing prices go down because homeowners can get stuck with rates that go up when they cannot sell or refinance with a lower property value.
Have questions about mortgage loans? Call us at (800) 288-9693. We answer questions about different types of loans every day.