For the average person buying a home is exciting and fun. It’s figuring out how to get it financed that is not as much fun. Housing prices and the rates on mortgages vary overtime but a buyer can rely on a fixed rate mortgage to not fluctuate.
What Are Fixed Rate Mortgages?
This type of mortgage is simply one where the interest rate always stays the same amount over the life of the loan. This means that how much you pay each month and the amount of interest that is applied to it will always be the same. The one exception to this is if your homeowner’s insurance or property tax rates change then it could impact your monthly payments. For the average homeowner, a fixed rate mortgage is the most ideal because it’s stable and predictable.
In most situations, a fixed rate mortgage will have a higher interest rate than an adjustable-rate will initially. But ARMs are only lower initially in most cases and then after a certain period of time such as three, five, or seven years, the interest rate goes up. Once that initial period is up, the rate can fluctuate as can your monthly payments and that fluctuation can take place over the remainder of the loan. There are some limits to the fluctuation as most ARMs do have a cap.
The Most Common Mortgages Available Are Either An Adjustable Rate Mortgage Or A Fixed Rate Mortgage
A typical fixed rate mortgage will come with the option of choosing how long you finance for and this can range from 10 to 30 years. The interest rate itself will always stay the same regardless of how long the mortgage is for. Because this is so much more stable it is the preferred type of mortgage for the average homeowner.
The rate of interest paid on an adjustable rate mortgage will fluctuate overtime during the course of the loan. An ARM has its interest rate based on a margin and this is what determines what you pay in interest any given month. The spread remains the same but what causes the fluctuation is the fact that the index changes.
The loan will be adjusted regularly and those changes are based on the terms of the mortgage. When the interest rates increase the borrower will have to pay more and they will need to put that extra amount in their budget to meet the higher payment. A borrower doesn’t need to make this type of adjustment when they have a fixed rate mortgage because it will always stay the same. The one drawback is that they also won’t get the advantage of having their payments go down if interest rates go down unless they refinance.
The fixed rate mortgage can increase if the borrower places property tax and homeowners insurance in escrow. This is due to the fact that insurance and taxes will sometimes go up. This is not the interest rate fluctuating that causes the increase but only the fact that the cost of insurance and taxes went up.
How Long Does It Take To Repay A Fixed Rate Mortgage?
The term of the mortgage is what determines how many years it will take to repay the loan. The most common fixed rate mortgages are either 15 or 30 years. Here are some of the pros and cons to consider with each of these options.
30 Year Mortgage
The biggest pro when it comes to a 30-year fixed-rate mortgage is the fact that the monthly payments can be considerably lower than they will be with a shorter-term mortgage. The drawback to this option is the fact that over the life of the loan you will pay a lot more interest than you would with a shorter-term mortgage. The interest rate is usually more for this type of mortgage as well.
15 Year Mortgage
The pros of this mortgage include the fact that you will pay less interest because it is a shorter term and the interest rate itself will be lower. The reason why more homeowners don’t take advantage of this choice is the fact that the monthly payments are higher.
For most borrowers, the 30-year fixed-rate mortgage is preferable over the 15-year loan simply because the payments are lower. When you go with a longer-term it usually means you can borrow more money. For some homeowners, it means that they can have an additional monthly cash flow that can be applied to other things including emergency savings, children’s college tuition, and other priorities.
For those who have the extra cash flow, the 15-year mortgage may be the better choice because they’ll pay off their home faster and the interest rate will be lower. Because you’re repaying more of the principal it means your overall monthly payments will be higher and this means you’ll need to make certain it’s something you can afford together with other financial goals you have.
Understanding The Difference In Mortgage Lengths
If Jane is a first-time home buyer and she has a tight budget then the length of time she chooses for the mortgage can determine how much she can borrow. If as an example she feels that she can afford $1,000 a month then she may be able to get a payment close to that but the length of the loan will determine how much she can get. If Jane chooses a 30-year fixed mortgage with an interest rate of 4.5% then she can get a $200,000 house and her payment will be $1,013.
If she chooses a 15-year mortgage then the interest rate might be 4% and this would mean for the same monthly payment she would only be able to get a home that was $137,000. This means that if she goes with a 30-year fixed loan she will be able to borrow an extra $63,000 while maintaining the same monthly payment. Of course in that situation, she would pay more interest.
If Jane decides to borrow $200,000 on a 30-year fixed mortgage at four and a half percent then she will pay $164,813 in interest over those 30 years. If on the other hand, she goes with the 15-year mortgage at 4% then she will pay only $66,288 in interest over the mortgage. That means she will save $98,525.
There are always a number of options that you’ll want to consider. It’s best that you understand exactly how much you’ll be paying in principal and interest and this can easily be done using a mortgage calculator. Obviously, a lender will be more open to offering a competitive rate and terms to those who have a stronger credit history.