Adjustable versus fixed rate loans
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With a fixed-rate loan, your payment stays the same for the entire duration of the mortgage. The longer you pay, the more of your payment goes toward principal. Your property taxes may go up (or rarely, down), and so might the homeowner's insurance in your monthly payment. For the most part monthly payments on your fixed-rate loan will increase very little.
Your first few years of payments on a fixed-rate loan go mostly toward interest. As you pay , more of your payment goes toward principal.
You can choose a fixed-rate loan in order to lock in a low interest rate. Borrowers choose fixed-rate loans when interest rates are low and they want to lock in at this lower rate. For homeowners who have an ARM now, refinancing into a fixed-rate loan can offer more stability in monthly payments. If you have an Adjustable Rate Mortgage (ARM) now, I'll be glad to help you lock in a fixed-rate at the best rate currently available. Call Sam Giannakakis at 612.816.1511 to discuss your situation with one of our professionals.
There are many different kinds of Adjustable Rate Mortgages. Generally, interest rates for ARMs are determined by an outside index. Some examples of outside indexes are: the 6-month CD rate, the 1 year Treasury Security rate, the Federal Home Loan Bank's 11th District Cost of Funds Index (COFI), or others.
Most 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 per year, even though the underlying index goes up by more than two percent. Your loan may feature a "payment cap" that instead of capping the interest directly, caps the amount the monthly payment can go up in one period. The majority of ARMs also cap your interest rate over the life of the loan.
ARMs usually start out at a very low rate that usually increases over time. You've likely read about 5/1 or 3/1 ARMs. For 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 after the initial period. These loans are usually best for people who expect to move within three or five years. These types of ARMs benefit borrowers who plan to move before the initial lock expires.
You might choose an ARM to get a lower introductory rate and count on moving, refinancing or simply absorbing the higher rate after the introductory rate expires. ARMs can be risky when property values decrease and borrowers can't sell or refinance their loan.