Fixed versus adjustable rate loans
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With a fixed-rate loan, your payment stays the same for the life of your mortgage. The amount that goes for your principal (the loan amount) increases, however, your interest payment will go down accordingly. Your property taxes may go up (or rarely, down), and so might the homeowner's insurance in your monthly payment. But generally payment amounts on your fixed-rate mortgage will increase very little.
Your first few years of payments on a fixed-rate loan are applied mostly to pay interest. As you pay , more of your payment is applied to principal.
Borrowers might choose a fixed-rate loan to lock in a low rate. People choose fixed-rate loans when interest rates are low and they wish to lock in the low rate. For homeowners who have an ARM now, refinancing with a fixed-rate loan can offer 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 a good rate. Call Action Lending at (714) 935-0775 to learn more.
There are many types of Adjustable Rate Mortgages. Generally, the interest on ARMs are determined by an outside index. A few of these 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 above a certain amount in a given period. 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 though the underlying index goes up by more than two percent. Sometimes an ARM has a "payment cap" which guarantees your payment can't increase beyond a certain amount in 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 over time. You've likely read about 5/1 or 3/1 ARMs. For these loans, the introductory rate is set for three or five years. After this period it adjusts every year. These loans are fixed for a certain number of years (3 or 5), then they adjust. These loans are best for people who anticipate moving in three or five years. These types of ARMs most benefit borrowers who plan to move before the initial lock expires.
You might choose an ARM to get a very low introductory interest rate and plan on moving, refinancing or absorbing the higher rate after the initial rate expires. ARMs can be risky in a down market because homeowners could be stuck with rates that go up if they can't sell or refinance at the lower property value.
Have questions about mortgage loans? Call us at (714) 935-0775. We answer questions about different types of loans every day.