Adjustable versus fixed rate loans
With a fixed-rate loan, your payment doesn't change for the entire duration of the loan. The portion that goes for your principal (the amount you borrowed) will increase, however, the amount you pay in interest will decrease in the same amount. The property tax and homeowners insurance which are almost always part of the payment will go up over time, but in general, payments on fixed rate loans change little over the life of the loan.
At the beginning of a a fixed-rate mortgage loan, the majority your payment goes toward interest. The amount applied to your principal amount goes up gradually every month.
Borrowers might 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 low rate. For homeowners who have an ARM now, refinancing into a fixed-rate loan can offer greater consistency in monthly payments. If you currently have an Adjustable Rate Mortgage (ARM), we'd love to assist you in locking a fixed-rate at a favorable rate. Call Metro Mortgage at 866-300-1550 for details.
Adjustable Rate Mortgages — ARMs, as we called them above — come in a great number of varieties. Generally, the interest for ARMs are determined by a federal index. A few of these 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 ARM programs feature a "cap" that protects you from sudden monthly payment increases. There may be a cap on how much your interest rate can go up in one period. For example: no more than two percent a year, even if the index the rate is based on increases by more than two percent. Sometimes an ARM features a "payment cap" which ensures that your payment can't go above a certain amount over the course of a given year. The majority of ARMs also cap your interest rate over the duration of the loan.
ARMs usually start out 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 initial rate is fixed for three or five years. After this period it adjusts every year. These loans are fixed for 3 or 5 years, then they adjust. These loans are best for people who expect to move in three or five years. These types of adjustable rate loans most benefit borrowers who will move before the initial lock expires.
Most people who choose ARMs choose them when they want to take advantage of lower introductory rates and don't plan to stay in the home longer than the introductory low-rate period. ARMs can be risky when housing prices go down because homeowners could be stuck with increasing rates if they cannot sell or refinance at the lower property value.
Have questions about mortgage loans? Call us at 866-300-1550. It's our job to answer these questions and many others, so we're happy to help!