Different Types of Mortgages: Fixed Rate Mortgage vs. Adjustable Rate Mortgage

What is a Fixed Rate Mortgage?

With a fixed rate mortgage, your interest rate will stay the same throughout the life of the loan. Your total monthly payment will be the same every month. At the beginning of the life of your loan, your payments will be largely interest. As the life of the mortgage goes on, your payments will become more principal and less interest.

One of the main advantages of a fixed rate mortgage is that you do not have to worry about interest rates shooting up and suddenly adjusting your monthly payment. Many people enjoy this stability because they know that they will be able to make their payments every month outside of extenuating circumstances.

One of the disadvantages of a fixed rate mortgage is that if you purchase a home when interest rates are high, your payments will be less affordable than if rates are low. When this happens, many people choose to refinance their homes some time throughout their mortgage. This way, they will be able to keep a fixed rate mortgage but have a lower interest rate.

What is an Adjustable Rate Mortgage?

As the name implies, an adjustable rate mortgage has a variable interest rate. However, there is a pre-arranged frequency in which the interest rate changes. If you have a shorter adjustment period, your initial interest rate will likely be lower and vice versa.

However, with an ARM, your interest rate will often surpass the interest rate on a fixed-rate mortgage. For an adjustable rate mortgage, you must take into account your adjustment frequency, adjustment indices, your margin, and caps.

The number one advantage of an adjustable rate mortgage is that for the first several years of a mortgage, it is significantly less expensive than a fixed rate mortgage. However, your monthly payment can change over the life of the loan and can be significantly higher than a fixed rate mortgage.

What Type of Mortgage is Right for You?

If you want your monthly budget to remain the same, a fixed rate mortgage will be right for you. Your interest rate will not fluctuate, which can make planning your monthly finances much easier. Additionally, you do not have to worry about interest rates suddenly shooting up and increasing your monthly payment.

If you’re looking for cheaper payments at the beginning of your loan and are willing to pay more later, an ARM might be right for you.

Conclusion

Both fixed and adjustable rate mortgages have their advantages and disadvantages. Which one is right for you?