Fixed versus adjustable rate loans
With a fixed-rate loan, your payment doesn't change for the entire duration of the loan. The longer you pay, the more of your payment goes toward principal. Your property taxes increase, or rarely, decrease, and your insurance rates might vary as well. For the most part monthly payments for your fixed-rate loan will increase very little.
Early in a fixed-rate loan, a large percentage of your payment goes toward interest, and a significantly smaller part goes to principal. As you pay , more of your payment goes toward principal.
You might choose a fixed-rate loan to lock in a low interest rate. People select these types of loans because interest rates are low and they wish to lock in at the lower rate. For homeowners who have an ARM now, refinancing with a fixed-rate loan can provide more consistency in monthly payments. If you currently have an Adjustable Rate Mortgage (ARM), we can assist you in locking a fixed-rate at a good rate. Call Homewood Mortgage, Inc. at 205-941-1484 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. Some examples of outside indexes 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 programs feature a "cap" that protects borrowers from sudden increases in monthly payments. There may be a cap on interest rate variances over the course of a year. For example: no more than two percent per year, even if the index the rate is based on increases by more than two percent. Sometimes an ARM features a "payment cap" that guarantees your payment can't increase beyond a fixed amount in a given year. Most ARMs also cap your interest rate over the life of the loan period.
ARMs usually start at a very low rate that may increase over time. You may hear people talking 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 types of loans are fixed for a certain number of years (3 or 5), then they adjust. These loans are usually best for people who anticipate moving within three or five years. These types of ARMs benefit borrowers who plan to move before the loan adjusts.
You might choose an ARM to get a lower introductory interest rate and count on moving, refinancing or simply absorbing the higher rate after the initial rate goes up. ARMs can be risky in a down market because homeowners can get stuck with increasing rates when they cannot sell their home or refinance at the lower property value.
Have questions about mortgage loans? Call us at 205-941-1484. It's our job to answer these questions and many others, so we're happy to help!