What Are the Benefits and Drawbacks of Choosing a Fixed Or Adjustable Rate Mortgage?
The choice of mortgage type is one that can make the difference between buying a home and staying in one. The decision is usually based on a homebuyers financial situation, affordability and preferences, but interest rates can also play a role.
The Benefits & Drawbacks of Choosing a Fixed or Adjustable Rate Mortgage
When it comes to the mortgage, two main options are available: a fixed-rate mortgage and an adjustable-rate mortgage, or ARM. While both types have their advantages, its important to understand which option is right for your unique circumstances and financial needs.
Advantages of a Fixed-Rate Mortgage
A fixed-rate mortgage is generally a good option for homeowners who are looking for stability and predictability in their loan payments. It also tends to be a better fit for people who expect to stay in the house for a long time and dont plan on refinancing.
Depending on the loan type, you may have an opportunity to switch from a variable-rate to a fixed-rate mortgage, but you will typically pay a fee for the change.
In addition, most ARMs include yearly and lifetime rate caps, which limit how much the interest rates can go up or down. These caps are often included to avoid unexpected and unwanted interest rate adjustments during the term of the loan.
Some lenders offer a lower initial interest rate on an ARM than on a fixed-rate mortgage, which can save you money during the introductory period. However, once the introductory period ends, your loan may be subject to interest rate fluctuations and could result in higher monthly payments than a fixed-rate mortgage would have had.
Another potential disadvantage is that some ARMs have prepayment penalties, which means you may be required to pay interest only or pay a lump sum of cash to refinance your mortgage before youre able to pay off the loan in full. These penalties can add up quickly and can be a costly mistake for some homebuyers.
Disadvantages of an ARM
The biggest drawback to an ARM is that it can have unpredictable interest rates, making it harder to budget your mortgage payments and stay within your desired spending limits. Its also a risky loan, so make sure you understand the terms before signing on the dotted line.
In general, a fixed-rate mortgage is the preferred option for most homeowners. They offer a number of benefits, including:
Low initial interest rates
When you choose an ARM, you will pay a lower initial interest rate than on a fixed-rate mortgage, and you will likely have the option to refinance into a fixed-rate loan later on if you wish.
These introductory rates are usually much lower than the long-term rates on fixed-rate loans, so they can be a helpful tool in allowing you to buy a more expensive home or get a smaller payment.
If youre planning to move in the next five years, it might make sense to choose a five-year ARM with an interest rate that is lower than that of a 30-year fixed-rate loan.
