Differences between fixed and adjustable rate loans
With a fixed-rate loan, your payment stays the same for the life of the mortgage. The amount of the payment allocated for principal (the amount you borrowed) will go up, however, your interest payment will decrease in the same amount. Your property taxes may go up (or rarely, down), and so might the homeowner's insurance in your monthly payment. But generally payments on a fixed-rate mortgage will increase very little.
Your first few years of payments on a fixed-rate loan go primarily to pay interest. That reverses as the loan ages.
Borrowers might choose a fixed-rate loan in order to lock in a low rate. Borrowers choose these types of loans because interest rates are low and they wish to lock in the lower rate. If you have an Adjustable Rate Mortgage (ARM) now, refinancing into a fixed-rate loan can offer greater consistency in monthly payments. If you currently have an Adjustable Rate Mortgage (ARM), we'll be glad to assist you in locking a fixed-rate at a favorable rate. Call Custom Lending Group at (707) 252-2700 to learn more.
There are many types of Adjustable Rate Mortgages. Generally, the interest rates on ARMs are determined by a federal index. A few of these are: the 6-month Certificate of Deposit (CD) rate, the one-year Treasury Security rate, the Federal Home Loan Bank's 11th District Cost of Funds Index (COFI), or others.
Most ARM programs have a "cap" that protects borrowers from sudden monthly payment increases. Your ARM may feature 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. Sometimes an ARM has a "payment cap" which ensures that your payment won't increase beyond a fixed amount over the course of a given year. Plus, almost all ARMs feature a "lifetime cap" — this cap means that the rate can't exceed the cap amount.
ARMs most often have the lowest, most attractive rates toward the beginning of the loan. They usually provide the lower rate from a month to ten years. You may have heard about "3/1 ARMs" or "5/1 ARMs". In these loans, the initial rate is set for three or five years. After this period it adjusts every year. These loans are fixed for 3 or 5 years, then they adjust. These loans are best for people who anticipate moving within three or five years. These types of adjustable rate programs are best for people who plan to move before the initial lock expires.
You might choose an Adjustable Rate Mortgage to get a lower initial rate and plan on moving, refinancing or simply absorbing the higher rate after the introductory rate expires. ARMs can be risky when housing prices go down because homeowners could be stuck with increasing rates if they can't sell or refinance with a lower property value.
Have questions about mortgage loans? Call us at (707) 252-2700. It's our job to answer these questions and many others, so we're happy to help!